ECB comes under pressure as financial instability looms

By Stewart Fleming

Date: 26/05/05

The European Central Bank is coming under increasing political pressure to cut interest rates amid evidence that both the EU and the world economies are losing momentum and deepening anxiety about the threat of serious international financial instability if global economic imbalances continue to grow.

Yesterday (25 May) the widely watched Ifo economic research institute's indicator of German business confidence registered its fourth successive decline, slumping to its lowest level in 21 months in May.

"Forward-looking indicators are pointing to a loss of economic momentum not only in Germany but across the whole euro area," said Michael Hume, European economist at investment bank Lehman Brothers in London.

In Brussels the European Trade Union Confederation (ETUC) put out a strongly-worded statement backing Tuesday's call from the Organisation for Economic Co-operation and Development (OECD) for an immediate cut in ECB interest rates.

In its half-yearly economic outlook, the OECD slashed its forecast for economic growth in the euro area for 2005 from 1.9% to 1.2% and called for an immediate 0.5% reduction to 1.5% in the ECB's leading interest rate.

John Monks, ETUC general secretary, said: "The ECB has to abandon its wait-and-see attitude, it cannot just watch the economy enter a fifth year of extremely meagre growth."

With a possible general election looming, Germany's Economics Minister Wolfgang Clement this week joined Italian ministers in pressing for the ECB to cut interest rates.

The mounting political pressure puts the ECB in a difficult position. Long- and short-term interest rates in the eurozone are at 60-year lows. The fact that such low rates have failed to trigger a sustained recovery is a puzzle for its policymakers.

It provokes the question of whether even lower rates would help the real economy, business investment in particular, or only raise the prices of assets such as houses, shares and bonds. The ECB's problems are worsened by the fact that global imbalances need a global solution, and there is no sign of one.

The OECD's chief economist Jean-Philippe Cotis, commenting on global imbalances in the world economy, said this week: "We are running the risk that an accident will happen...Time is running out. The numbers are getting big, big, big."

On 2 June, after its next monthly monetary policymaking Council meeting, the ECB will announce its own forecasts for the eurozone. If, as widely expected, they project a slower rate of growth than the 1.2-2.0% figure for 2005 that the ECB projected in March and also show greater concern about the 2006 outlook, then defending the current 'no change' policy will prove more difficult.

In a speech in Cologne on Tuesday, Otmar Issing, the ECB's chief economist, said that the bank had modified its views on the inflation outlook. "Price stability risks still point to the upside...but they are clearly smaller than was the case last autumn," he said.

• Stewart Fleming is a freelance journalist based in Brussels.

Article reports that the European Central Bank was coming under increasing political pressure to cut interest rates amid evidence that both the EU and the world economies were losing momentum and deepening anxiety about the threat of serious international financial instability if global economic imbalances continued to grow.