MercoPress. South Atlantic News Agency

Euro rate increased 25 basis points to 2.5%

European Central Bank decided Thursday to increase the key interest rates by 25 basis points to 2.5% reflecting the risks to price stability which have been identified.

"The adjustment of interest rates will contribute to ensuring that medium to long-term inflation expectations in the euro area remain solidly anchored at levels consistent with price stability", said ECB president Jean Claude Trichet in Frankfort.

"Interest rates across the entire maturity spectrum still remain at very low levels in both nominal and real terms, and our monetary policy remains accommodative. While this policy stance reflects our current assessment, we will continue to monitor closely all developments with respect to risks to price stability", he added.

The quarter-point rise from 2.25% is the second in four months, after the bank had held rates steady at 2% for more than two years. Last month, ECB President Jean-Claude Trichet said the bank would remain "vigilant" on inflationary pressures.

According to ECB macro projections the Euro zone average annual real GDP growth will be in a range between 1.7% and 2.5% in 2006 and between 1.5% and 2.5% in 2007. "The results constitute a slight upward revision to the Eurosystem staff projections of December 2005, mainly reflecting a somewhat stronger outlook for private investment over the projection horizon", and in the view of the ECB Governing Council, "downside risks to this outlook for growth relate mainly to oil price developments and global imbalances".

As to price development ECB estimates that inflation rates in the short run are likely to remain at above 2%, with the precise levels depending strongly on future energy price developments, which have recently been relatively volatile.

"Beyond the short term, changes in administered prices and indirect taxes are expected to significantly affect inflation in 2006 and 2007, and an upward impact can also be expected from the indirect effects of past oil price increases", said Mr. Trichet.

Wage dynamics in the euro area have remained moderate over the recent past and the ECB working assumption is that this will continue to be the case, "due not least to strong global competitive pressures, particularly in the manufacturing sector".

Moderate wage trends have helped to contain domestic inflationary pressure despite strong oil price increases, "therefore, looking ahead, it is crucial that the social partners continue to meet their responsibilities in this regard, also in the context of a more favourable economic environment".

However risks to the outlook for price developments remain on the upside and include further increases in oil prices, a stronger pass-through of oil price rises into consumer prices than currently anticipated, additional increases in administered prices and indirect taxes, and ? more fundamentally ? stronger wage and price developments than expected due to second-round effects of past oil price increases.

Summing up, "annual inflation rates are projected to remain elevated in 2006 and 2007, and the economic analysis indicates that risks to price stability over the medium term remain on the upside".

Given the strength of monetary growth and the ample liquidity situation, cross-checking the outcome of the economic analysis with that of the monetary analysis confirms that upside risks to price stability prevail, "an adjustment of interest rates was therefore warranted. By acting in a timely fashion, the Governing Council is helping to keep medium and long-term inflation expectations in line with price stability and thereby making an ongoing contribution to sustainable economic growth and job creation".

Mr. Trichet emphasized that "the Governing Council will continue to monitor closely all developments to ensure that risks to price stability do not materialize".