After a prolonged period in which interest rates were falling, yesterday's decision by the European Central Bank (ECB) to sanction a half point rise may come as something of a shock to borrowers in this State. In some respects, that is no bad thing; with the economy in danger of overheating and with house price inflation continuing to surge, the ECB move is a reminder that the boom conditions do not continue indefinitely. Indeed, it seems certain that the Central Bank here, if it still had the power to do so, would have long ago raised interest rates in order to dampen any inflationary pressures in the economy.
This State's booming economy is, of course, out of step with the rest of the euro zone which is only now emerging from years of sluggish growth. Yesterday's decision by the ECB is confirmation, if such were needed, that the recovery is now well established. Whereas once the threat was deflation, the ECB is now acting pre-emptively to curb any threat of inflation. But inflation in the euro zone has increased only marginally to 1.2 per cent and it is expected to remain comfortably inside the two per cent upper limit set by the ECB, for some considerable time. Such statistics would not normally warrant a rise in interest rates. It may be that that the ECB is determined to display its anti-inflation credentials to the markets - and prevent the kind of asset price inflation evident in this State - but there must be a risk that it will slow the pace of recovery.
For Irish borrowers, there will be concern that the Rubicon has been crossed and that interest rates will now climb to the high rates of the early 1990's. This seems very unlikely; most analysts expect that the official ECB rate will still be under 4 per cent this time next year - very low by Irish standards.
The question now is how the main Irish lenders will respond to the move. A rise of about 0.5 of a percentage point in interest rates is now likely, although Bank of Scotland, whose arrival has done so much to shake up the mortgage market, has still to decide on its response. Bank of Scotland has already pledged, however, that its mortgage rate will not move beyond one and half points of the ECB base rate, now 3 per cent after yesterday's increase. In itself, this should help to cushion the blow for Irish borrowers.
Interest rates will edge upwards in the coming week, but the presence of Bank of Scotland will, not for the first time in recent months, concentrate the minds of Irish lenders. The days of excessive margins and anti-competitive practices on mortgage business may, thankfully, be over.
In his address to the Institute of Bankers last night, the Minister for Finance, Mr McCreevy, placed himself firmly on the side of the consumer. Accusing the banking sector, by implication, of maintaining a cosy cartel, he expressed disappointment that it took the arrival of Bank of Scotland to deliver the best available interest rates to customers. But the public might well ask; why did Mr McCreevy and his predecessors allow the banks to exploit the consumer so shamelessly for so long?