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Can The ECB Quell Global Inflation?

Can The ECB Quell Global Inflation?

2.5.2011 15:13

- Eurozone inflation increases further to 2.8%. 
- Inflation concerns increase likelihood of June ECB rate rise. 
- ECB likely to worry about price pressures building in Eurozone, in contrast to US Federal Reserve. 
- Tough ECB interest rate action not without significant risks; 
- Increasing signs of economic divergence in Eurozone unemployment 
- Can the ECB quell predominantly global price pressures?

The preliminary estimate of Eurozone inflation for April showed a further increase to 2.8% from 2.7% in March to reach its highest level in two and a half years. This makes it increasingly likely that the European Central Bank will raise interest rates again as early as June and that its key policy rate (currently 1.25%) will end the year at 2%.

The prospect of further ECB rate increases in coming months has been well-signalled but today’s jump in inflation makes it more likely that the ECB will adopt a reasonably aggressive approach particularly when compared to that adopted by the US Federal Reserve or the Bank of England. This difference in approach has resulted in a firmer Euro on foreign exchange markets. While the ECB has indicated a determination to act to underpin its credibility, such action is not without significant risks. First of all, as other data released today, the countries that make up the Eurozone now seem set on notably different economic paths. Unemployment data show German joblessness dropping to 6.3% in March to reach its lowest levels since the immediate aftermath of unification.

In stark contrast, Spanish unemployment climbed to 20.7% of the labour force, the highest level in fourteen years. In these circumstances, ECB interest rate policy is likely to raise significant issues by being far too loose for some countries and far too tight for others.

A second major issue for the ECB is its capacity to act against inflation threats that are largely global in nature. While there appears to be a greater propensity for price pressures to build within the Eurozone than in more flexible economies, questions remain about the capacity of the ECB to find a local solution to a largely global problem.

Please download full version of the report from Economy / Analyses section.

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