The ECB has raised interest rates and strongly signalled more to come. Dominic Coyle reports.

Any lingering doubts about the future direction of interest rates were dispelled yesterday. It wasn't so much the decision by the European Central Bank to ratchet up interest rates. That had been the most clearly telegraphed move in the short history of the ECB.

Rather it was the hawkish tone of the comments by ECB president Jean-Claude Trichet, speaking in Frankfurt after the decision, allied to the surprise decision by the Bank of England to increase interest rates in Britain for the first time in over a year.

Following similar moves by the US, Japan and Australia, yesterday's moves indicate a clear view among central bankers that four years of rapid global economic growth, high energy prices and historically low interest rates have led to mounting inflationary pressure worldwide.

Other banks across Europe are now expected to follow suit for similar reasons.

The question now, especially for borrowers, is for how long and by how much will the upward curve of rates continue.

Speaking after the rate announcement in Frankfurt yesterday, Trichet said: "If our assumptions and baseline scenario are confirmed, a progressive withdrawal of monetary accommodation will be warranted."

NCB economist Eunan King said the reiteration of the phrase "progressive withdrawal of monetary accommodation", first heard last month indicates "that a programme of rate hikes is envisaged unless the data is very disappointing".

Already, borrowers with a mortgage of €250,000 over 25 years on a typical ECB tracker rate have seen their monthly repayments costs jump by €100 this year. Yesterday's decision will add a further €34 to that, bringing monthly repayments to €1,333.

IIB chief economist Austin Hughes argues that, even after yesterday's move, the cost of borrowing remains low. "The 'real' - ie inflation-adjusted - cost of borrowing will be just half a per cent given the European inflation rate of 2.5 per cent, still somewhat below the 0.8 per cent average 'real' cost of ECB funding that has prevailed since 1999," he said.

That and Trichet's comments yesterday leave little doubt that rates will rise again in October and very likely in December. That would leave euro-zone rates at 3.5 per cent at year end - a full 1.5 percentage points ahead of where they stood before the ECB started this cycle of rate increases.

Niall Dunne, strategist at Ulster Bank Corporate Markets, said yesterday rate hike represents "an acceleration in the rate of money tightening". And he noted that while Trichet "may not have called for inflationary 'vigilance' - the ECB's signal for an intention to increase interest rates in the short-term - the overall tone of his commentary was definitely hawkish".

Trichet said: "Annual inflation rates are expected to remain elevated, at above [ the ECB target of] 2 per cent on average, in 2006 and 2007, with risks to this outlook on the upside." He noted particularly the "upward effect on inflation" over the course of the next year of future indirect effects of past oil prices.

"By acting today in a timely fashion, the governing council is helping to anchor medium and long-term inflation expectations at levels consistent with price stability, thereby making an ongoing contribution to sustainable economic growth and job creation," the ECB president added.

Asked whether the decision to raise rates had been unanimous, he said the 18-strong governing council had "overwhelmingly supported" the decision.

AIB Global Treasury chief economist John Beggs believes rates could rise as high as 4 per cent next year and noted the ECB's concern about"excessive" growth in lending to the private sector. While European rates lag far behind Ireland's 30 per cent year-on-year growth in lending, the 11 per cent annual increase recorded across the euro-zone is seen as adding to inflationary risks.

Despite three increases in interest rates since December, recent private sector credit figures from the Central Bank showed that growth in borrowing is accelerating and is now running at over 30 per cent a year.

And even though growth in mortgage lending is slowing very slightly, it is still more than 29 per cent ahead of the first half of 2005.

Data from various housing surveys show that prices are, on average, running 15 per cent ahead of the same period last year, a rate that is also increasing and this week's Exchequer figures confirm the picture with all property-influenced tax categories running considerably ahead of Government projections.

Marie Hunt, director of research at estate agent CB Richard Ellis, expects that increases in interest rates "will curtail activity in some areas of the property market", although she does not expect them to signal a sharp correction. "There is no doubt that . . . the series of interest rate hikes we have witnessed in 2006 will undoubtedly put the brakes on the rampant house price inflations we have seen in the housing market."

However, she says the "stress-testing" of borrowers by the lending institutions means "most residential borrowers should be in a position to service increased mortgages if interest rates continue to increase further over the course of the year".

Hunt added: "Further interest rate increases will, however, exert undue pressure on first-time buyers and those at the lower end of the residential market who are heavily geared."

IIB's Hughes agrees that escalating loan repayments as a result of the three previous ECB rate increases, which have coincided with sharp increases in energy costs, will weigh on consumer confidence and curb spending power.

He reckons the higher repayments would drain around €1 billion from the spending power of borrowers, with the rising energy costs taking a further €400-€500 million from the economy. But Hughes expects the pressure on household budgets to be offset by maturing Special Savings Incentive Accounts (SSIAs), which will boost spending power by an estimated €3 billion, and by the prospect of a generous budget in December.

Brian Cowen's next budget could potentially play a crucial role in determining whether the economy "staggers or swings", said Hughes, who added that Cowen could "afford to be generous" based on Exchequer returns published on Wednesday.