The decision by the European Central Bank (ECB) to reduce interest rates yesterday is welcome. The big euro zone economies badly need an economic boost.
Such is the poor state of the German economy, in particular, that it might have been wiser for the bank to cut borrowing costs by a full half percentage point, rather than opting for a quarter point reduction. Further reductions may be on the way, depending on economic conditions and particularly on what happens in the Middle East. Mr Wim Duisenberg, the ECB president, clearly indicated that the bank would consider moving again, if conditions required it.
Given the economic picture in continental Europe and the likelihood of war, the ECB must not hesitate to act again quickly if this is needed. It has been criticised, with some justification, for being too slow to react to events in the past. The latest cut and a current internal review of its policy-making process suggest a new willingness to respond more actively to economic conditions.
The latest interest rate reduction comes at a time when economic growth here has slowed very significantly. With demand subdued, the quarter point cut will not have a marked impact on Irish growth prospects for this year. Growth here is set to remain lacklustre for some time as events in Iraq play themselves out. Much will depend on the strength of the international economy and whether recovery starts late this year.
With growth slowing, the rate of inflation here is likely to ease back from its current high level of 4.8 per cent. While the latest rate cut will not give a general boost to consumer price inflation here, there must be a concern that it will add fuel to house prices.
House prices here are already at a high level and any further sustained increase would be of concern. There is now a responsibility on lenders not to fuel the market by irresponsible lending practices based on very low interest rates - and on the regulatory authorities to do all in their power to make sure this does not happen. Both borrowers and lenders need to realise that the historically low interest rate levels will not last forever.
Savers, meanwhile, face a poor outlook, with interest rates lagging behind the likely rate of inflation. In such an environment, the main banking groups must not use the low interest rate environment to boost the margin they earn from the gap between borrowing and lending rates.
There is some indication already that this may happen. The advice to both borrowers and lenders must be to shop around. The best guarantee of a good deal for consumers in the long term is competition. Unfortunately the inconvenience - or, in cases such as SSIA accounts, impossibility - of moving from one financial institution to another can affect competition in the sector. The main banks all make very healthy profits out of the Irish market and a study being undertaken by the Competition Authority on competitive conditions in the sector should be an interesting read.