MercoPress. South Atlantic News Agency

ECB admits inflation and low growth prospects will persist

With annual inflation rates likely to remain “well above levels consistent with stability” and the latest data confirming the “weakening of real GDP growth in mid 2008”, the European Central Bank, ECB, has left interest rates unchanged at 4.25%.

In his usual press conference following the Thursday decision, ECB President Jean-Claude Trichet weighed up inflation of 3.8% and recent evidence that some Euro zone nations are on the brink of recession. Inflation worries forced the ECB to raise rates by 0.25% in July. The key concern for ECB policymakers is how to control inflation, which remains well above its 2% target due to rising food and energy prices. The bank is also concerned that wage demands could further fuel inflation. But Mr Trichet also admitted the prospect of economic growth in the region grinding to a halt. Figures from the European Union showed the Euro zone economy shrank 0.2% in the second quarter of the year compared with the previous quarter. Trichet described the situation saying that weakening growth "reflects partly an expected technical reaction to the strong growth seen in the first quarter (0.7%) as well as dampening effects from global and domestic factors, including direct and indirect effects from high commodity prices". The OECD recently said that it expected growth in the three largest eurozone economies - Germany, France, and Italy - to be broadly flat for the rest of the year. According to Trichet the Euro area economy is currently experiencing an episode of weak activity characterized by high commodity prices weighing on consumer confidence and demand, as well as by dampened investment growth. "We expect this episode to be followed by a gradual recovery. In particular, if persistent, the fall in oil prices from their peak in July will help strengthen real disposable income, with the level of employment remaining high and the unemployment rate low by historical standards". Trichet said he's hopeful that a resilient world economy, benefiting mainly from sustained growth in emerging economies "should support external demand for Euro area goods and services and thereby investment". Using the word "uncertainty" regarding the outlook for economic activity, Trichet said "risks stem particularly from renewed increases in energy and food prices, which could dampen consumption and investment. Moreover, downside risks continue to relate to the potential for the financial market tensions to affect the real economy more adversely than currently foreseen. The possibility of disorderly developments owing to global imbalances also implies downside risks to the outlook for economic activity, as do concerns about rising protectionist pressures". According to the ECB staff macroeconomic projections for the Euro area, GDP growth for 2008 will be in the range of 1.1 to 1.7% and between 0.6 and 1.8% in 2009. Regarding inflation "the rate is likely to remain well above levels consistent with price stability for quite some time, moderating only gradually during the course of 2009". ECB projections foresee Euro zone average annual inflation at between 3.4% and 3.6% in 2008 and between 2.3% and 2.9% in 2009. Finally Trichet said ECB monitoring price-setting behavior and wage negotiations in the Euro area with "particular attention" and called for the elimination of schemes in which nominal wages are indexed to consumer prices. "Such schemes involve the risk of upward shocks in inflation leading to a wage-price spiral, which would be detrimental to employment and competitiveness in the countries concerned; the Governing Council calls for these schemes to be abolished".