The European Central Bank kept interest rates unchanged yesterday in a sign that its monetary policy stance remains cautious in spite of falling inflation in the euro zone.

In a decision that ECB policy-makers had signalled to financial markets well in advance, the bank's 18-member governing council left its main rate at 4.5 per cent. The ECB has made only one interest rate change this year, a cut in May of 0.25 percentage points.

By contrast, the US Federal Reserve has slashed rates by a cumulative 2.75 percentage points to 3.75 per cent and has made clear it may act again if US economic weakness persists.

The ECB's caution mainly reflects its determination to bring down the euro zone's annual inflation rate, which has been above the bank's 2 per cent target ceiling for over a year.

Inflation fell to 3 per cent last month from 3.4 per cent in May and is thought likely to fall below 2 per cent in the first half of next year. But the bank suspects that the decline will not follow a smooth path and could be affected by erratic movements in oil and food prices.

In addition, the ECB is concerned that relatively high inflation may trigger excessive wage settlements in Europe later this year and in 2002.

Before yesterday's meeting ECB council member Klaus Liebscher said last month's fall in inflation did not mean the all-clear had been sounded. "I saw those data with pleasure, but one swallow does not make a summer," he said.

Vitor Constancio, another bank council member, said there had been recent signs of industrial activity recovering in the euro zone, though it was too soon to describe them as a trend.