Further rate rises may be needed to fight inflation, Garganas warns

FRANKFURT (Reuters) – Further interest rate increases are needed if the eurozone economy continues growing at full tilt with inflation above 2 percent, European Central Bank Governing Council member Nicholas Garganas was quoted as saying yesterday. «With output growth near or above potential and with inflation well above 2 percent, a progressive withdrawal of monetary accommodation still remains necessary if our baseline scenario unfolds as expected» next year, Garganas told Dow Jones news agency in an interview. He also said the ECB’s monetary policy stance currently is to be «very vigilant» on inflationary risks, words that signal further credit tightening is coming. His comments provided further confirmation for market expectations the ECB will raise its benchmark interest rate for a fifth time to 3.25 percent at its next meeting on October 5, despite recent data showing that declining oil prices are taking the heat out of inflation. Garganas also gave reasons why rates could well remain on an upward path, saying inflation is expected to remain above 2 percent next year and liquidity is ample. «Therefore all these indicators suggest. .. we feel there is a need for further progressive withdrawal of monetary accommodation.» Inflation so far this year has remained stubbornly above the ECB’s 2 percent price ceiling though it is expected to moderate in coming months. ECB projections are for HICP around 2.4 percent next year. Markets have priced for rates to reach 3.5 percent by year’s end and a good chance of 3.75 percent by mid 2007. Further rate hikes are by no means automatic, Garganas stressed according to Dow Jones, and they will depend on the flow of economic data. «There will be a good deal of new information to assess between now and the end of the year,» he was quoted as saying. «On the basis of the data we will consider our policy options, as we always do, and I don’t think it’s practical to discuss the process or course of further tightening, nor the halt of monetary tightening, at this time.» Garganas said that despite temporary weakness in the first quarter of 2007, when Germany raises its consumption tax, the eurozone economy will continue to be robust. «Regarding growth, my reading of the latest data leads me to believe that, on average, growth will remain slightly above potential in 2007, though the value-added tax may have a limited, temporary impact on the first quarter of next year,» Garganas told Dow Jones. Garganas noted some downside risks to growth next year, given uncertainties about the U.S. economy. «But all in all, I’m upbeat about euro-area growth prospects for this, and next year,» he said. On the inflationary side, he said one risk is «higher than anticipated wage increases in light of tightening labor markets.» He cited as an example the IG Metall German steelworkers contract, which would amount to a 5.5 percent pay increase in 2007.