The euro fell against the dollar on Thursday after European Central Bank President Jean-Claude Trichet said interest rates in the region were moderate and monetary policy was on the “accommodative side.” The fact that he did not mention the V word (vigilance) disappointed the market, forcing the euro lower.
The euro fell to a session low against the dollar at $1.3116 from around $1.3150 before Trichet’s remarks. Against the yen, the euro was trading 0.7 percent higher at 154.00 yen.
The European Central Bank raised interest rates for the seventh time since late 2005 to stem inflation after the fastest economic growth in six years. ECB policy makers increased the benchmark refinancing rate by a quarter point to 3.75 percent, as expected. While economists expect another step from the ECB in June, investors have pared bets on a further increase.
The ECB has indicated it wants to curb inflation in the 13- nation euro region by removing “monetary accommodation” and taking rates to a level that no longer stimulates the economy. With inflation below the bank’s 2 percent limit and the economy showing signs of cooling, some investors say the central bank has reached that point today.
The contracts settle to the three-month inter-bank offered rate for the euro, which has averaged 16 basis points more than the ECB’s key rate since the single currency’s start in 1999. Europe’s single currency was worth $1.3150.
Much will hinge on the ECB’s new economic forecasts, due to be published. If they suggest inflation will accelerate in 2008, the bank will be inclined to raise rates further.
The ECB currently forecasts inflation of about 2 percent this year and 1.9 percent in 2008. Policy makers are still concerned about a resurgence in inflation later this year. They will raise rates to 4 percent in June unless we get some catastrophic volatility in markets.’
Economists say the so-called neutral interest rate, the level that neither stimulates nor restrains growth, lies between 3.5 percent and 4 percent.
Inflation slowed to 1.8 percent in February, holding below 2 percent for the sixth straight month and putting the ECB on course to achieve its inflation goal in 2007 for the first time since 1999.
The bank is concerned workers’ demands for wage increases will reignite inflation as companies post record sales and profits. IG Metall, Germany’s biggest labor union, is demanding a 6.5 percent pay increase for as many as 3.4 million workers, defying ECB calls for wage restraint.
At the same time, M3 money supply, which the ECB uses as a gauge of future inflation, rose 9.8 percent from a year earlier in January, the fastest pace in 17 years.
