When the European Central Bank first intervened in the credit markets, on the morning of Thursday, August 9, they also took the bold step of telling banks that they could have as much money as they wanted at the central bank's current 4% base rate - without any restrictions or limits. The ECB had never done that before. This was a big gamble, but so far, it has worked. Previously, the ECB had sent signals that it intended to raise key interest rates further, so promising unlimited money at 4% seems risky. However, the continuing intervention by other central banks and the Fed's big (50 basis-point) Discount Rate cut may cause the ECB to postpone or shelve its upcoming rate hike.
After a confluence of factors - namely the crisis in the credit markets, tumbling stock markets, a sharp drop in British inflation and disappointingly slow economic growth in the euro-zone's three largest economies - many ECB observers are now questioning how much further central banks need to go. On Tuesday, data showed that the economies of Germany, France and Italy all grew less than expected in the second quarter, with the growth rate slowing in all three nations. But there is hope: Euro-zone GDP growth is still above its recent trend line, so it's possible that the ECB may stubbornly raise key interest rates anyway, which would likely strengthen the euro.
On Tuesday, Britain released its July inflation figures, which fell much faster than economists' expectations, down to an annualized rate of 1.9%. This marked the first time in over a year that inflation figures fell below the British government's long-term target. The fact that U.S. inflation (the July CPI) also fell to its lowest level in 8 months is indicative that inflation may be cooling in many nations. Euro-zone inflation is likely moderating, especially in light of softer GDP growth in Germany, France and Italy. Complicating matters further, economists now expect the Bank of England and the Fed to cut interest rates soon, so it would be a bit odd if the ECB raised interest rates.
