Maastricht is real bogeyman in the eyes of Central Bank

SO MUCH for all the fuss about inflation. The latest figures show that price pressures in the economy remain remarkably muted, despite record economic growth. A pick up in the annual rate of inflation from 1.4 per cent to 1.5 per cent is hardly a cause for major concern. Even the ranks of the Central Bank executives at yesterday's briefing could scare forebear to cheer the figure, while warning that they remain concerned about inflationary pressures next year.

Inflation is, of course, the central bankers' bogeyman and most central banks, including our own, are dedicated in public at least to pursuing "price stability". However, 1.5 per cent is about as close as you can get to stable prices. In a well argued piece in a recent edition of the Economist, leading US economist Mr Paul Kiugrran argued that the economic cost of getting inflation any lower than this was simply not worth paying. So why are the worry beads still out in Dame Street?

In one word - Maastricht. Under the criteria which states must meet to qualify for the single currency, their inflation rate must be no more than 1.5 percentage points above the average of the lowest three in the EU. At the moment the threshold would thus stand at just over 2.6 per cent.

Ireland is closer to the threshold than the "headline" 1.5 per cent inflation figure would suggest. The inflation rate here is calculated differently than in most other member states, the main difference being that we count mortgage borrowing costs. Falling mortgage rates depressed the Irish rate over the past year (the latest increase came too late for inclusion in the mid August figures).

On an EU harmonised basis the Irish rate was 2.2 per cent in the middle of last month. This is still comfortably below the threshold. But clearly the concern in Dame Street is that inflationary pressures here will start to build up moving into next year due to the strength of the domestic economy.

But it is not clear that they would. After all, the pound remains strong on the currency markets and this has a powerful impact on restraining inflation as it keeps a lid on import prices and squeezes Irish companies competing on both the home and export markets. But the Central Bank will not be in any mood to take chances with inflation, with 1997 the crunch year for qualification to the Euro champions league.

However, there is not a huge amount that the Central Bank can do, beyond nudging interest rates upwards slightly. The Bank appears to see the interest rate increases now nearly completed as being an important signal to borrowers that rates can rise as well as fall. It may not be enough to put a lid on the autumn housing market, but the Bank will not have been unhappy to see the recent headlines trumpeting a rise in borrowing costs.

A further increase in wholesale money market rates would put banks and building societies under pressure to follow the latest 0.25 of a percentage point rate increases with another of a similar magnitude. However, immediate pressure for a further such rise seems unlikely. The Central Bank is likely to wait and watch the credit figures, over the coming months, before deciding to allow any further increase in short term money rates.

A betting person might put money on the next increase coming towards the end of the year - perhaps in December. From the Bank's point of view this would get the increase out of the way before the Budget and possibly before the Government dissolves to call an election. However, the timing of the next increase in rates is still uncertain - further sharp increases in credit growth in the next couple of months might prompt an earlier rise.

The latest figures go a long way to supporting the view that the exchange rate is the key factor in Irish inflation. After all, the economy has been cantering along at a fast pace for months now, without any sign that strong domestic demand is pushing up prices. This does not mean that they would stop worrying in the Central Bank, however. That's their job, after all.