‘If it must, ECB will act’

Favorable inflation trends appear to be waning in the eurozone economy, which is enjoying another year of strong growth, and the European Central Bank must act decisively if price risks threaten, Bank of Greece Governor and ECB Governing Council member Nicholas Garganas said. In an interview with Reuters, Garganas declined to say whether this means the ECB needs to raise interest rates a further 50 basis points to 4.25 percent. But he made clear he was not content with interest rates that are low in real terms when inflation risks are increasing, and that economic data in the coming months would be pivotal in any further ECB rate moves. «If the incoming data lead me to the conclusion that risks are likely to materialize, then my position would be that we must act immediately, decisively and in a firm way to ensure price stability. Period,» he said. «If you make an assessment of the present (monetary) stance and say that the stance is still on the accommodative side, then obviously you can say that interest rates are still at a moderate level and relatively low in real terms, and you can draw your conclusions from that,» he said in the interview conducted late on Tuesday. The ECB is expected to raise its benchmark rate, now 3.75 percent, again in June. But market dealers and analysts are uncertain whether it will go further, given generally calm inflation and a slowing US economy. Garganas discounted both factors as major restraints. Inflation has been quiescent since September, thanks to favorable year-over-year comparisons and falling oil costs. But he noted that oil prices have risen again by 25 percent since January and the March estimate of the Harmonized Index of Consumer Prices was less encouraging. «Recent declines in inflation should not lull us into a false sense of complacency,» he said. «Estimates for March data suggest a reversal of this trend – rising from 1.8 percent in February to 1.9 percent and the core rate rising. We feel we should monitor these developments very, very closely.» Moreover, he listed factors increasing the price risks ahead – economic growth above potential, businesses running at full tilt, stronger corporate pricing power, falling unemployment that raises consumer spending potential, plenty of money and cheap credit available and rising wage demands. Garganas is not ready to relax, even though structural changes to price pass-through mechanisms in the economy and ECB credibility are working to restrain actual inflation. «I cannot see any substantial evidence so far that the risks to price stability are materializing, but obviously the risks to inflation are to the upside to a large extent,» he said. Garganas cited wage talks between Germany’s IG Metall trade union and employers as a «very important» factor that the Governing Council will weigh at its June meeting. The union wants a 6.5 percent rise, despite ECB warnings on the dangers of seeking increases which are well above the rate of inflation. Growth dynamic On the US economy, Garganas said he expects a soft landing, which would be offset by strong growth in Asia and Europe. Global growth, while moderating somewhat, would remain robust and support eurozone exports, he said. The Greek central bank governor, known for his optimism on growth which has proven well founded in the past, said he «would not rule out» an upward revision to ECB eurozone GDP projections for 2007 in June. ECB staff now put GDP growth in a 2.1-2.9 percent range. «I am rather optimistic because the dynamics are such that we should continue to see growth at or above potential for some while,» he said. First-quarter data have been strong so far and Germany’s value-added tax increase has had only a limited impact. He described an easing in the Purchasing Managers’ Index for March as «noise.» «At the moment, growth dynamics are pretty strong in Europe so at this moment I do not (see the business cycle peaking).» This robust economic environment makes strong money supply, growing at its fastest pace in 17 years, and high credit growth further cause for concern. Garganas described M3 money and credit growth as «still very strong» and said it would need to retreat before the ECB was confident that ample liquidity conditions in the eurozone no longer threaten prices in the medium to longer term. «Obviously this is a key objective of the tightening of monetary policy. Sooner or later you have to see the monetary aggregates beginning to slow down. So far we don’t see that.» BoG asks banks to cut bad loan ratios The Bank of Greece said yesterday it has asked banks to gradually lower the ratio of non-performing loans in their portfolios to 3.5 percent, in view of the Basel 2 regulatory framework on capital adequacy. «The Bank of Greece, taking into account the continuing fast pace of credit expansion, places particular importance on the further improvement of (loan) portfolio quality… so that significant fluctuations in capital adequacy ratios are avoided,» the central bank said. In a letter to bank chief executives, Bank of Greece Governor Nicholas Garganas said the ratio of net non-performing loans (NPLs) – loans that are past due for more than 90 days minus provisions – over equity capital must not exceed 10 percent. The central bank expects Greek lenders to comply with these guidelines and adjust credit policies to meet the targets. The Bank of Greece said banks had improved their risk management systems and written off bad loans with the average NPL ratio of all loans dropping to 5.4 percent at the end of last year from 6.3 percent in 2005. Greek banks have been riding a wave of strong credit expansion in the last three years as households pile on debt to buy property and consumer goods, taking advantage of low real interest rates. Based on central bank December statistics, total household debt – mortgages and consumer credit – grew 25.3 percent year-on-year to 80.2 billion euros or about 40 percent of gross domestic product. (Reuters)

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