The latest news about international interest rates will not have been well received at the Central Bank of Ireland. The Bank has held off from cutting Irish rates for some time now, hoping that German borrowing costs might increase, leaving Irish rates with less distance to fall. But now there is speculation about a co-ordinated reduction in interest rates across the main industrialised economies.
True, comments from Fed governor Alan Greenspan this week indicate that things would have to get a bit worse for this to happen, while comments from Bundesbank president, Hans Tietmeyer show that the Bundesbank is not about to join in any rate-cutting party. But there can be no doubt about the extent of concern in the international policymaking community about the knock-on consequences of the crises in Russia and Asia. It is now imperative that the US and European economies keep on growing at a healthy rate; otherwise the risk of a major international recession will loom large. So any further bad news would be likely to see interest rates fall in the US and Britain, while there is now no prospect of a rise in core European interest rates before the end of the year, and some small reduction remains possible.
A few months ago the European central bank would probably have been content with the forecast that base short-term interest rates in the euro zone would be at around 4 per cent when it took over the reins next January. But now it is likely to want euro rates to converge down to current German levels of 3.3 per cent.
This means that Irish wholesale money market rates must fall by some 2.75 percentage points in the weeks up to the end of this year. The Central Bank again indicated this week that it would hold off reducing rates for as long as possible. This now seems a pointless exercise, as a sharp fall is now inevitable. Perhaps the Bank is keen that it not be given the blame if the fall in rates leads to another burst of inflation in the housing market. One way or another, an unprecedentedly rapid fall in Irish rates is inevitable over the balance of the year and it remains to be seen how much of this will be passed on by the financial institutions to borrowers and how much savers will suffer. It is a fair bet that the banks and building societies will try to retain their current profit margins in so far as they can.
The authorities here will be hoping that the low-inflation environment internationally will mitigate the impact of this fall in borrowing costs on Irish inflation generally. And certainly the threat of rising inflation has been eased somewhat by international events. But the worry is that a further fall in borrowing costs could give another shove to house prices, just as the Government is trying to calm this area.
