There is a feeling of "too little, too late" about yesterday's European Central Bank (ECB) rate cut. There is a strong argument that, given the dire economic conditions across much of the euro zone, the bank should have cut interest rates more aggressively in recent months. Or that, not having done so, it should at least have reduced rates by a full half-point this time rather than going for a quarter-point reduction, writes Cliff Taylor, Economics Editor.
These arguments relate, of course, to the wider euro-zone economy rather than to Ireland, where the economy is probably still growing (slowly) and inflation is at 4.8 per cent. However, with growth slowing sharply here, Central Bank governor Mr John Hurley, who sits on the ECB council, is likely to be less concerned with the latest cut than the Bank would have been with the generally low level of interest rates during the late 1990s boom.
The economy here has slowed considerably, exporters are suffering due to the strong euro, investment is falling and consumer spending is slowing.
While the rate of inflation here is still high at 4.8 per cent, it should ease as the year goes on. In any case, higher interest rates would do relatively little to slow inflation in sectors such as services - both in the private and public sectors - where prices have been rising rapidly.
The one worry from lower interest rates is that they could give a further boost to the housing market by cutting mortgage costs. With further rate cuts possible in the months ahead and investors seeing little return in deposits or equities, there is a risk of an unwelcome upward push to house prices. This could leave the market exposed in the event of a prolonged downturn. More sanguine analysts feel, however, that the general economic uncertainty may act to stop any further sharp rise in house prices.
Much of the uncertainty for Ireland stems from the very poor growth prospects for continental Europe. Why - with the German economy collapsing, and France and the Netherlands in increasingly poor shape - did the ECB restrict itself to cutting its main rates from 2.75 per cent to 2.5 per cent? There are two possible explanations.
One is the obvious one about the division on the ECB ruling council between those favouring strict adherence to the 2 per cent inflation target and those believing the bank should be more flexible in taking the general economic picture into account.
On one side, so the reports go, is the old Bundesbank mindset of ECB council member and chief economist Mr Otmar Issing, while on the other is a less hawkish wing led by the new vice-president, Greece's Mr Lucas Papademos. This theory would put the quarter-point cut as a compromise between the two camps.
The other possible explanation is that the bank wanted to keep something in reserve in case economic conditions deteriorate further in the weeks ahead. Perhaps the bank feared that, in the current uncertain climate, there is a risk that any cut would have a limited impact. Certainly, ECB president Mr Wim Duisenberg, appeared to go out of his way to leave room for a further lowering of rates.
There is a strong case that, whatever the above reservations, a 0.5 percentage point cut was justified. The German economy, Europe's biggest, is in a dire state with growth stalled, recession threatening and the unemployment rate heading above 11 per cent.
For the EU as a whole, the European Commission estimates that 2002 growth was a paltry 0.8 per cent. Current indicators for production and confidence are almost universally bleak.
And even if the bank had cut to 2.25 per cent this time, what would stop it moving rates below 2 per cent if required in the months ahead. After all, US base rates stand at 1.25 per cent and no-one is in any doubt that the Federal Reserve Board would not hesitate to cut further, if it thought this was required.
Indeed, some analysts point to recent speeches from Fed governor Mr Ben Bernanke, which pointed out that there was still plenty that the US central bank could do to head off deflation, even if it had already cut short-term interest rates as low as zero. These principally centred around injecting money into the economy through purchasing Government bonds and, therefore, increasing the money supply.
While the possibility of US rates heading to zero must be unlikely, the willingness to discuss it and the fact the monetary and budgetary policy in the US is fully concentrated on ensuring growth stands in contrast with the EU experience. The ECB would fear that such loose talk would encourage "impure thoughts" of boosting inflation. It is, at least, undertaking a review of its policies, amid some signals that it is prepared to act in a more timely and forward-looking fashion. On yesterday's evidence, it still has some way to go.
