ECB's chief economist defends not cutting rates

European Central Bank chief economist Ottmar Issing yesterday defended last week's decision to leave interest rates on hold, claiming that the present level was keeping inflation in check without curbing growth in the 12-nation single currency zone.

He urged governments not to relax efforts to balance their budgets despite slowing global growth.

The ECB's decision not to cut rates last Thursday stood out in marked contrast to the decision of the Bank of England's monetary policy committee which took financial markets by surprise by cutting its repo rate from 5.25% t0 5%.

The Bank of England's monetary policy committee cited worries about the impact of global woes on the UK economy as a key reason for its decision.

In an interview with the Italian newspaper Corriere della Sera, yesterday, Mr Issing said the ECB's monetary policy was "not restrictive". He said: "The short and long term real interest rates are still quite low and are not putting any break on growth."

Mr Issing underlined the extent to which the bank's policy making is shaped by worries about inflation. He compared inflation to "a dragon, always ready to come back to life."

He said: "It is true that prices have fallen and that the downward trend will continue, but inflation is still close to 3%. There is still a long way to go to get it back to a level we consider necessary to have stability - 2%."

He argued that though the eurozone would be affected by the slowdown in the US there were signs that the worst could be over. "There is reason to believe consumption is picking as the year goes on, thanks to tax cuts in some countries and that there is space for the economy to pick up in 2002.

"Europe's economy is now growing faster than the US - something we have not seen for a long time - so the eurozone is in a better situation than America."

The bank - which has cut rates only once this year, compared to six cuts by the US Federal Reserve and four by the Bank of England - is likely to remain under pressure to ease borrowing costs.

The next meeting of its interest-rate-setting governing council is scheduled for the end of the month, with analysts speculating that the bank could cut rates then or in September.

The ECB's chief economist insisted that government's should remain determined to keep their budget deficits under firm control.

"Above all, we must keep to the stability pact, which targets getting budgets balanced or into surplus in the medium term. It is important we do not put off balancing budgets indefinitely."

He stopped short of advocating curbs on government expenditure, saying: "Nobody favours a policy of spending cuts during an economic slowdown."