ECB issues inflation warning

European Central Bank (ECB) policymakers yesterday warned companies and workers not to generate inflationary pressures in the euro zone by driving up wage settlements on the back of higher oil prices.

In a concerted media offensive, senior ECB officials signalled the central bank might be forced to raise interest rates if the temporary sharp rise in inflation fed through into higher wage settlements.

Mr Axel Weber, the Bundesbank president and an ECB council member, said it would be "a worrisome development" if higher inflation expectations led to "second round effects" such as rising wages. In such circumstances, the ECB would have to review its policy assumptions.

"This would tend to lead to a more restrictive approach" to monetary policymaking, he warned.

Mr Weber was confident the recent jump in inflation to 2.5 per cent in May, well above the ECB's "below but close to 2 per cent" target, was temporary. But the bank had to be "vigilant".

His comments follow warnings from Mr Jean-Claude Trichet, ECB president, and Ottmar Issing, the bank's chief economist, that inflationary pressures would only remain subdued if wage demands were held down.

In an unprecedented appeal "to social partners" to avoid an inflationary spiral, Mr Trichet told leading Italian, French and Spanish newspapers that price pressures would ease if wage demands were held down.

Mr Issing said the rise in inflation expectations, though not dramatic, was a cause for "some concern".

Mr Issing said higher indirect taxes and oil prices were "one-off effects" that should not be compensated for through higher wages.

Economists said the more hawkish ECB tone, likely to have been agreed at last week's governing council meeting, did not presage an interest rate increase in the months ahead.

Observers said the bank was attempting to communicate two messages. It wanted to stress to the wider public that the recent rise in inflation was temporary. But it also wanted to signal to markets that policy was not likely to be changed abruptly.