Up go rates in Euroland

The European Central Bank yesterday ordered its first rise in interest rates since it took over running monetary policy in the 11-country eurozone at the beginning of the year.

It raised its main refinancing rate from 2.5% to 3%, reversing its April rate cut with the decision coming soon after the news that the Bank of England's monetary policy committee had raised British rates a quarter point to 5.5%.

Though the move was well received by the financial markets and ECB president Wim Duisenberg said the decision had been reached by consensus, there were signs of division over the move in the eurozone.

Portugal, for example, welcomed the increase as helping to check its growing economy, but the Austrian finance minister Rudolf Edlinger said that from his country's perspective "there was no important reason for the ECB to raise rates".

In Holland, finance minister Gerrit Zalm said he was happy with the decision and that the financial markets would not have been satisfied with a quarter point rise. However, Dutch economists said the decision was too little, too late.

The German finance ministry refused to comment after the decision, though earlier the finance minister Hans Eichel had said that a half-point rise would cost Germany about DM1.5bn (£503m) in extra debt service costs.

Alison Cottrell, an economist at PaineWebber in London, argued that the rate rise was probably be the least worst option for the German economy, which is showing signs of recovery but where growth is less robust than other economies in the eurozone.

"Given the expectations of a rate rise if the ECB had not moved that would have in creased uncertainty and pushed up long bond yields, which would have been more damaging," she said.

Mr Duisenberg said the decision had been taken to head off inflationary pressures in the eurozone. The ECB's governing council concluded the decision "will counteract the upward trend in the balance of risks to price stability and contribute to sustained non-inflationary growth in the euro-area in the medium-term".

The decision for a half point rise is clearly designed to head off speculation that the ECB will now keep rates on hold for some months. Analysts say few central banks will be keen to raise borrowing costs between now and February when market participants are concerned with negotiating the millennium bug period.

"This is a good position to hunker down and watch Y2K go past," Salomon Smith Barney economist Paul Horne said.

Mr Duisenberg hinted as much yesterday when he said that the move "is expected to contribute to reducing any un certainty... It will help to contain a possible increase in volatility in money markets towards the end of the year."

"The next risk period [for a rise in interest rates] is around next Easter," said Ms Cottrell. By then the ECB would have several more months data on the money supply - which has been growing strongly - economic growth and the progress of the spring wage round in Germany, she said.

Europe's share indices ended higher, government bonds rose, although the euro, which had moved modestly ahead on the news to reach $1.0508 later fell below $1.04 in US trading.

"This is what the markets wanted to see, that they were taking firmer action and this should give support to the euro and the bond market," according to Mark Cliffe, chief economist at ING Barings.