Higher oil prices produce rise in euro-zone inflation

Higher oil prices are being blamed for the latest upward push in euro-zone inflation and could prompt the ECB to raise interest rates more quickly than had been expected.

According to Eurostat, the rate of inflation across the euro zone rose to 2.5 per cent in March from 2.4 per cent in February.

The increase is disappointing as it had been hoped that inflation would begin to retreat towards the ECB's 2 per cent target set in the second quarter of 2002.

Continuing uncertainty about oil prices is now expected to further delay the achievement of this target.

The ECB will meet tomorrow to review European interest rates but is expected to hold interest rates steady.

Mr Austin Hughes, chief economist at IIB Bank, does not believe there will be any immediate increase in European interest rates but suggests rising euro-zone inflation and high oil prices will accelerate the likelihood of a rate hike.

"It makes a rate hike more likely, possibly in July, of the order of about a quarter of one percentage point."

Mr Hughes added that when rates were raised, it would mark the start of a sequence of increases, although the ECB would be mindful about the impact of higher interest rates on European growth rates.

Mr Hughes suggested the ECB would closely monitor the rate of inflation to gauge whether last month's increase was a one-off or whether higher inflation was going to be a long-term concern.

The bank will be anxious to dampen inflation but will also not want to damage the tentative recovery in economic activity across the euro zone.

Analysts said that if oil prices remained at their present level, inflation could still drop below the 2 per cent threshold in the second quarter.

"We expect a downtrend to occur, but with the rising oil prices, it's getting ever smaller... one has to see how strongly the prices will rise further," said Mr Manuela Preuschl, an economist at Deutsche Bank. High oil prices could become a more important threat to the price outlook in the euro zone if strong inflationary expectations led to higher settlements in wage talks.

(Additional reporting by Reuters)