European Central Bank focuses on inflation, not rate cuts
— -- Financial markets worldwide are being hammered by fears of a savage economic downturn. But the Federal Reserve appears to be all but alone in fighting it — at least for now.
Tuesday, the Bank of Canada was the only other central bank to join in the Fed's sudden rate cut and its quarter-point reduction paled alongside the Fed's three-quarter-point move.
Notably idle was the European Central Bank, which has kept lending rates at 4% since mid-2007 and shows no sign of changing course despite mounting signs of weakness in the eurozone economy.
"The ECB recognizes they face headwinds from the global economy, particularly the U.S. But they still are wary of higher inflation," says Marc Chandler, senior vice president for currency strategy at Brown Bros. Harriman in New York.
The ECB needs to retain its focus on fighting inflation in the face of a very significant, ongoing market correction, ECB President Jean-Claude Trichet told legislators on Wednesday.
Eurozone inflation already is running at an annual rate of 3.1%, a 6½-year high. New collective bargaining deals are raising fears that prices could surge: 30,000 German rail workers last week won an 11% pay raise.
But as fears of a U.S. recession rattle markets in Europe and Asia, some in the financial markets are urging a more aggressive ECB stance. Otherwise, as the Fed further reduces interest rates, an already weak dollar could sink further, pushing up the prices Americans pay for imported goods.
"It means that the Fed moves are more likely to show through to dollar weakness than would otherwise be the case," said Brian Sack, a former Fed economist now at Macroeconomic Advisers. "It complicates things a bit because that's a transmission mechanism that also feeds through into inflation through import prices."
The ECB's stand-pat stance stems in part from a difference between its job description and that of the Fed. Unlike the U.S. central bank, which is formally charged with both fighting inflation and promoting growth, the ECB has a single-minded focus: keeping prices level. During previous rounds of rate-cutting in 2001 and 2003, the ECB waited until growth was near zero before acting.
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