ECB expected to increase interest rates today

The European Central Bank is expected to raise interest rates today following a meeting of its governing council.

The markets are expecting a rate rise of at least 0.25 of a percentage point, if not a half point rise, bringing base interest rates to either 2.75 per cent or 3 per cent.

The governing council of the ECB has made it increasingly clear in recent weeks that an interest rate rise is on the way and failure to move today would undermine its credibility on the markets.

The German and Italian economies are beginning to move out of the doldrums while the French economy may be the second-fastest growing in 2000 behind the Republic.

An interest rate rise has been in prospect since summer but a desire from the Germans to put it off as long as possible, so as to allow growth to take root, has postponed any action to date. But now, after months of hints and suggestions, it appears that the ECB will make the jump and take back the 0.5 percentage point rate cut of last April. The expansion of euro zone money supply and credit growth has been faster than many on the ECB board are comfortable with and this provides a good reason for a rate rise.

It is also thought that one of the ECB's most influential member and chief economist, Mr Otmar Issing, has been pushing for a rise and may not have wanted the full cut which was pushed through in April. He is thought to be a keen observer of money supply data which is currently well above its 4.5 per cent target.

It is possible that there are still people on the executive council who point out that there has been no sign of any pick up in consumer prices. However, the more mainstream view is thought to be that a pre-emptive strike could mean lower inflation than would otherwise be the case at the end of next year.

Moreover, analysts say that Bundesbank president Mr Ernest Welteke has now managed to sell the idea of higher interest rates to German politicians. At this stage even the Bundesbank is thought to to be worried that expansion in the French and Spanish economies could lead to higher asset prices, particularly housing. This in turn has the danger of feeding through to wages, possibly leading to an inflationary spiral. For this reason, according to the Frankfurt Money Strategist newsletter, Mr Welteke may be prepared to accept a half point rise now in order to have less later.

That may be the rational to today's decisions. Most analysts agree that the ECB president Mr Wim Duisenberg had probably been motivated by a desire to wait to raise rates until he could push through a larger rise as well as have at least two of the three main German and Italian figures vote for it. If Mr Welteke, his fellow executive board member Mr Tommaso Padoa and Banca d'Italia governor Mr Antonio Fazio vote for the increase it will be delivered.

It is also thought that the ECB has come to the decision that its best strategy is to have a reputation for moving rates infrequently but by larger amounts than other central banks.

In this way the ECB perceives itself as closer to the US Federal Reserve than to the Bank of England which has been criticised for reacting to every little bit of data with an interest rate cut or increase.

Indeed, the Bank of England is also expected to raise its rates by another quarter point today, its last chance before the potential problems around the year end could mean it would be dangerous to do so.

Whether the ECB opts for a quarter of half point rise could have an impact on mortgage holders here. Observers believe that the banks and building societies will find it difficult to pass on a quarter point increase, particularly in light of the further decrease announced by Bank of Scotland last week. A half point rise on other hand would most likely be passed on to consumers in the form of higher interest rates.

The larger rise is also likely to boost the euro on the foreign exchange markets, while a smaller rise could undermine it and send it back towards its recent lows, analysts said.