EURO ZONE inflation will not return within the European Central Bank's target until 2010, Jean-Claude Trichet, its president, said yesterday, making it clear that a cut in interest rates was far from being on the bank's agenda in spite of the risk of a euro zone recession.
The ECB left its main interest rate unchanged at a seven-year high of 4.25 per cent but revised up its forecast for inflation this year and next on the back of higher oil prices.
At the same time, Mr Trichet expressed renewed confidence that a "trough" in growth in the second and third quarters of this year would be followed by "progressive recovery".
The ECB had "no bias" towards either a cut or increase in rates, its president added.
Axel Weber, Germany's Bundesbank president, has warned that further interest rate increases might be needed as growth recovers, but Mr Trichet pointed out that the ECB had increased rates as recently as July to head off inflationary risks.
Financial markets do not expect a cut in interest rates until well into next year at the earliest.
Euro zone GDP contracted by 0.2 per cent in the second quarter, with business and consumer confidence indicators suggesting the third quarter has been little better.
But as a result of higher oil prices, euro zone inflation - at 3.8 per cent in August - is far above the ECB's target of an annual rate "below but close" to 2 per cent.
The ECB says prices are far slower to adjust to changing economic circumstances than in the US, and fears that pipeline inflation pressures are still building in the euro zone, for instance through wage-indexation.
Euro zone wage growth had picked up while productivity had decelerated, Mr Trichet said, "resulting in sharp increases in unit labour costs".
His "very strong concern" about such "second-round effects" appeared to be a warning shot aimed at IG Metall, the powerful German engineering trade union, which is expected to demand wage increases of up to 8 per cent in forthcoming negotiations.
The revised ECB forecasts showed inflation in a range with a mid-point of 3.5 per cent this year, compared with the 3.4 per cent it had expected in June. For 2009, the forecast was lifted to a range with a mid-point of 2.6 per cent, up from 2.4 per cent. But Mr Trichet added that "during the course of 2010, we will be back to our definition of price stability".
Euro zone growth was expected to slow to 1.4 per cent this year, little more than half the rate of growth seen last year, but could possibly accelerate in 2009 to a range of 0.6 to 1.8 per cent.
Analysts warned that the ECB was too optimistic on growth. - (Financial Times service)
