Pressure Mounts for Eurozone Rate Hike

If last week’s musings by European Central Bank Governing Council member Yves Mersch failed to convince observers that a Eurozone interest rate hike is on the way, today’s inflation numbers should provide sufficient evidence. In an interview published on February 22nd, Mersch said that policy makers would be taking a close look at the need to raise interest rates at the upcoming March 3rd meeting. Today’s release of the latest European inflation numbers certainly backs Mersch’s comments.

According to the European Union’s Luxembourg-based statistics office, inflation in the Eurozone rose to 2.3 percent in January from 2.2 percent the month before. While the actual result is slightly less than the predicted 2.4 percent increase, this is still the fastest rate of growth in the region since October 2008. In fairness, a forty percent jump in the price of crude oil is partially responsible for the surge in prices. However, when excluding volatile energy prices, inflation still rose by 1.1 percent in January compared to the 1.0 percent increase for December.

[mserve id=”Central_Bank_ECB.jpg” align=”left” width=”291″ caption=”European Central Bank” alt=”European Central Bank ECB” title=”European Central Bank “]

In addition to Mersch, other ECB officials have also taken on a more hawkish stance of late. ECB President Jean-Claude Trichet stated recently that the Bank is increasingly concerned that accelerating prices will force wages higher further exacerbating the potential for inflation. And just last week, ECB Board member Juergen Stark noted that the Bank was prepared to act “decisively and immediately” to ensure price stability.

The increasing belief that an interest rate hike is on the fast track is reflected in the bond market. German two-year bonds fell last week as investors sat on the sidelines for fear of locking in yields just prior to a rate hike. Other market events – namely the crisis in the mid-east – eventually took precedence and longer term bonds gained on concern that rising oil prices could slow the recovery but overall, it is clear that the bond market is factoring in a rate hike.

With respect to the timing of an increase, a recent survey conducted by Bloomberg revealed that the majority of respondents believe the ECB will leave the benchmark lending rate unchanged at one percent when it meets on March 3rd. However, the likelihood of an increase has been moved forward significantly and a majority of market watchers are now predicting a rate change by the middle of the year.

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