Press Office

RWI Essen: ECB should raise its key rate

Press release from 03 July 2008

RWI Essen supports an increase in key interest rates by the ECB. In the economists' estimation, this would enable the central bank to pursue its primary aim and preserve price stability in the Euro zone. On the other hand, this clear and comprehensible action would preserve the bank's own credibility. If it fails to act, there is a risk of inflation getting out of control and significantly more restrictive intervention becoming necessary at a later date. This would have much greater negative effects on economic development than a rise in key rates in the present situation.

RWI Essen is in favor of the European Central Bank (ECB) raising its key interest rates at its meeting this Thursday. In this way, the ECB could make a contribution to damping the pressure of price inflation in the Euro zone. Under the terms of the Maastricht Treaty, preserving price stability is a priority objective for the ECB. The bank regards this function as fulfilled when the inflation rate measured by the Harmonized Index of Consumer Prices (HICP) is just below two percent for the medium term. Currently, the level is 4%.

The ECB is not of course required to react immediately to short-term deviations from its target level, but in the estimation of the economists there are increasing indications that upward pressure on prices is consolidating and the risk of a general inflationary climate is increasing. Not only has the HICP risen significantly, but so-called "core inflation" (in which energy and food product prices are excluded) has been at a good 2.5% in recent months, and thus significantly above the ECB's target level.

Interest rate hike preserves the ECB's credibility

In addition, the market players' expectations for inflation have obviously also risen. On the one hand, this can assist in bringing about a further increase in price levels, as higher inflation rates are already being taken into account both in price fixing and in wage negotiations. On the other hand, it expresses industry's doubts concerning the ECB. The private sector obviously does not expect it to bring price inflation back within its target range. Both these factors would impede a return of the inflation rate to below 2%. An increase in interest rates by the ECB is therefore also important if its credibility is to be maintained.

For these reasons, the ECB should act rapidly to set a clear signal and increase its key rates. If it does not, there is a risk of inflation getting out of control and considerably more restrictive intervention becoming necessary at a later date. This would have much greater negative effects on economic development than a rise in key rates in the present situation.

For further information, please contact:
Dr. Torsten Schmidt, Phone: +49 201 8149-287,
Sabine Weiler ( RWI Press Office), Phone: +49 201 8149-213,

This press release is based on the RWI : Position "Für eine stabilitätsorientierte Geldpolitik" (In favor of a stability-oriented monetary policy). It is available (only in German)as a PDF file at www.rwi-essen.de/publikationen/rwi-positionen/.

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