Worst inflation may be over

Worst inflation may be over

FRANKFURT/VIENNA, Sept 5 (Reuters) – Euro-zone inflation has probably passed its peak but the European Central Bank cannot let its guard down yet, ECB policymakers said on Friday.
After leaving interest rates on hold 4.25 percent on Thursday, central bankers stressed they remained on alert about inflation risks and signalled they were not planning to bow to growth worries and loosen policy soon.
“Without a stable level of prices, there will be no sustainable economic recovery and no sustainable economic growth,” ECB Executive Board member Juergen Stark said at a conference in Frankfurt.
“Inflation remains at worrying levels and financial tensions persist. If anything, the challenges for monetary policy are intensifying rather than waning.”
Stark said he expected inflation to moderate in the months and quarters to come, a view backed by new Austrian central bank chief Ewald Nowotny, but both stressed the risk of a wage-price spiral remained alive.
“According to the information available now, we have seen that the peak of price development has been surpassed,” Nowotny said at his first news conference in Vienna.
“The international inflation development gives us the opportunity to get towards lower inflation rates and we should not give away that opportunity by internal development, by internal second-round effects.”
“There is no reason to give the all clear with regards to inflation, there is every reason for vigilance,” he said.
Inflation in the 15-nation region eased in August to 3.8 percent from a record high of 4 percent in June and July, but remains roughly double the ECB’s goal of just below 2 percent.
ECB President Jean-Claude Trichet said on Thursday he did not expect to reach this goal until 2010 and sharpened warnings on second-round effects, just as German union IG Metall flagged demands for wage rises of 7-8 percent for some workers.
Markets expect the ECB to keep rates on hold at the current seven-year high until well into next year, although investors are betting on rate cuts in mid-2009.
The euro zone economy contracted in the second quarter and Stark said it was very likely growth in the third would also be weak, before a “gradual recovery” in 2009.

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On the sidelines of the Frankfurt conference, Trichet said he had nothing to add to his comments on Thursday, when he said the ECB had no bias and was not precommitted to any action.
Trichet and Stark said maintaining price stability and sticking to a firm monetary policy framework were even more important in times of market upheavals.
“Stable institutions and firm monetary policy frameworks are needed more than ever in times of turbulence,” Trichet said, adding central bankers had to be permanently alert to excessive complacency by investors about risk.
ECB Executive Board member Lorenzo Bini Smaghi said markets may have overreacted to the ECB’s tightening of rules on the assets that it accepts in its liquidity operations.
The ECB plans to increase the risk margin it charges on for banks using asset-backed securities and unsecured bank bonds as collateral to borrow money from the central bank.
“I think this is not a particular tightening, it’s … in line with sound risk management procedures,” Bini Smaghi said.
Stark urged investors to return to the markets and warned banks should not become dependent on the ECB to provide the liquidity needed to trade.
“It is not the central role of the central bank to replace the markets, he said, although the ECB would keep providing funding for as long as market tensions remained.
Speaking in Spain, fellow board member Jose Manuel Gonzalez-Paramo said market tensions would probably continue for some time to come.
Trichet denied the changes to the collateral rules were a back-door rate rise, and said the changes had nothing to do with monetary policy.

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