The Central Bank revised up its growth estimates for the economy last week and issued its ritual warning about the threat of overheating. Yet in the same week the bank implemented a half point cut in interest rates, following the decision by the European Central Bank to cut its refinancing rate to 2.5 per cent from 3 per cent.
No doubt the Irish Central Bank voted against such a move, but the majority of the 17 member Governing Council of the ECB supported a cut. The decision highlights several issues, ranging from the dangers of a "one rate fits all" policy to the goals of the ECB itself.
As regards the second issue, the Maastricht Treaty is clear: the primary objective of the ECB is the maintenance of price stability, which is defined (by the bank) as inflation below 2 per cent. So there appears to be no mandate on the real economy. This is in marked contrast to the US central bank, the Federal Reserve, which is charged with maintaining price stability and full employment.
The exclusion of an employment provision from the ECB's mandate has drawn comment from the recently elected centre left governments in France and Germany. Indeed, if the Maastricht Treaty was up for re-negotiation, the ECB's remit might well be broadened to encompass a real-economy element.
As currently constituted, the ECB's executive board members have consistently emphasised the price stability goal and denied any desire to stimulate growth or employment - indeed the bank's mantra is that Europe's high unemployment rate is structural in nature and, therefore, not responsive to demand changes.
Yet, the latest rate decision is hard to explain in terms which exclude the real economy. Inflation in the euro zone is certainly low at 0.8 per cent, but it has been below 1 per cent since last September, and below the 2 per cent limit since January 1997.
However, this masks a large range across the euro zone, with inflation at only 0.1 per cent in Germany against 2.7 per cent in Portugal. Moreover, monetary growth in the euro zone, one of the indicators supposedly used by the ECB in setting rates, is marginally above the reference rate of 4.5 per cent.
Consequently, one must conclude that the only fundamental thing which has changed in recent months is growth expectations, particularly in the core countries. Business confidence in Germany has been weak and as it accounts for one third of the euro zone's gross domestic product, the economic situation there seems to have been a key influence on the ECB's decision to cut rates. Interestingly, the president of the ECB, Mr Wim Duisenberg, mentioned the growth outlook in his explanation for the cut, but other executive council members rejected the idea that the real economy played a part in their decision.
Whatever the reason, it is unlikely to be greeted with enthusiasm in a number of European capitals, including Dublin, Madrid and Amsterdam. Growth in these economies is well above the trend. Consequently, a monetary easing was singularly inappropriate. This particularly applies to Ireland, given the strength of consumer spending and the degree of house price inflation in the domestic economy. The 13 per cent rise in tax receipts in the year to March is testimony to the resilience of the current boom, and the latest Irish Permanent House Price Index confounds the rhetoric of those looking for a property price collapse.
As long as employment and earnings continue to rise, house prices will also go up, and no amount of spin from the authorities can alter this fact.
To compound the pressure on house prices, mortgage costs are now down to 5 per cent or below, from an average of 9 per cent over the last 10 years. As a result, the ECB's decision can only add further fuel to an Irish economy already expanding at a breakneck speed.
Indeed, the stimulus is even greater in Ireland than elsewhere, because Irish inflation is higher than that of the core states, so real interest rates here are lower than in Germany or France, even though nominal interest rates are identical across the zone.
The euro's weakness is also more expansionary for Ireland than in the core economies, as more than 70 per cent of Ireland's trade is outside the euro area, as well as more inflationary.
For many people with mortgages, the latest rate cut is welcome, and few are interested in the potential problems for the economy. Yet in a few years the situation might be different: European interest rates may be rising in response to strong growth in France and Germany, while Ireland may have finally slowed.
In that scenario Irish rates could be rising, even though domestic activity would require a rate cut. That day may be some time off, but the fact that Irish interest rates are set in Frankfurt might be less palatable then than it is now.
Dr Dan McLaughlin is chief economist at ABN AMRO Stockbrokers (Ireland) Limited.
