Central Bank keeps both eyes on Maastricht hurdle

LAST year's Central Bank statement on monetary policy contained four separate warnings about the possible need for higher interest rates during the year. This year's version, published earlier this week, contained only one. They are, it seems, taking a fairly laid back view in Dame Street about the risks of a rising inflation rate.

Or are they? The Bank's statement certainly does not point to any strong evidence of inflationary pressures. However, with next year's economic figures the ones to be used to assess which states qualify for economic and monetary union, the Bank's main concern will be that Ireland meets the inflationary standards. This is likely to lead to a much more cautious stance on interest rate policy towards the end of this year and moving into 1997.

Looking at the overall economic picture, there are few signs of inflationary pressures in the economy despite record economic growth. The Bank is a little concerned about the rate of growth in borrowings from banks and building societies which has been running at around 11 per cent. However, because the economy is growing so strongly, strong credit growth is not as worrying as it would be in a time of more sluggish expansion.

The Bank also sounds its usual warning about wage developments but, with the Programme for Competitiveness and Work in force until the end of this year, there are no signs of inflationary pressures from this source.

Ireland is benefiting, of course, from low inflation internationally. Whether inflation really is "dead" across much of the industrialised world - or is only resting is a widely debated topic. Increased competition across national boundaries and particularly from low cost countries is helping to keep the lid on prices.

The evidence is that the expectations of the public and business about inflation are now dramatically different than 10 years ago. This, in itself, will help to limit future pressure on wages and prices.

In Ireland, a strong value for the pound against sterling, the currency of our main trading partner, also helps keep a lid on prices.

But, while all is well in the real world, the rather artificial inflation rules set in the Maastricht Treaty are another matter entirely. The Treaty says that member states should have average inflation rates for next year not more than 1.5 percentage points above the average of the lowest three inflation rates.

The European Commission yesterday produced interim inflation figures for member states, attempting to harmonise the different inflation measures. This interim index differs from the normal consumer price index as the EU measure excludes the price of some services and also mortgage interest repayments.

The EU figure shows Irish inflation last year averaged 2.4 per cent, just slightly below the 2.5 per cent consumer price index. The new EU index shows that, at the end of 1995, the Irish rate was 2.3 per cent.

As Davys stockbrokers point out in a note on the figures, the average of the lowest three inflation rates in the EU was just 0.8 per cent in December - so Ireland would just meet the convergence rules which would set a limit of 2.3 per cent.

The EU is still working on harmonising the figures and it is not clear precisely how the rule will be interpreted. However, a line in the Central Bank's monetary statement, pointing out that we are no longer among the lowest inflation states in the EU, is, significant.

One more reduction in Central Bank interest rates is probably still on the way, in tandem with a Bundesbank cut. But further reductions thereafter are unlikely and, heading into next year, the Bank will not be slow to push up interest rates if it feels this is necessary to ensure we meet the Maastricht inflation rules.

There is no real risk of rising inflation in the sense the public understands, but the Central Bank will pull no punches to ensure we can jump the Maastricht hurdle.