ANALYSIS:THE SIGNAL from the European Central Bank (ECB) that it may raise rates next month is bad news for Irish mortgage holders, writes Simon Carswell

Bank customers are facing a potential double whammy on interest rate hikes. While the ECB considers a possible rate increase, Irish banks have been forced to raise their own mortgage interest rates, passing on to customers the higher cost of wholesale money in the turbulent financial markets.

The ECB has held its base rate at 4 per cent since this time last year, after doubling the rate from 2 per cent in a series of eight increases from December 2005.

Euro-zone inflation reached a record high of 3.6 per cent in May. This has prompted ECB president Jean-Claude Trichet to indicate yesterday that the bank could raise its rates next month "to secure the solid anchoring of inflation expectations" as risks to price stability had "increased further".

He stressed an increase next month was "possible" but not certain - though he revealed that some ECB governing council members had pushed for an increase yesterday.

The ECB's goal is to keep inflation below 2 per cent. Given that inflation is expected to average 3.4 per cent this year, the bank's hand may be forced, despite the raging crisis in the global banking sector and the existing high cost of money.

The credit crunch has forced Irish banks in recent months to curtail lending and raise their mortgage rates for customers, despite the ECB leaving the base rate unchanged since June 2007.

Any ECB rate hike would hit Ireland particularly hard. It would lead to a further slowdown in mortgage lending and delay any recovery in the property market.

"It would be unhelpful," said Scott Rankin, analyst at Davy Stockbrokers. "It raises the lower limit on borrowing costs. It means the rate increases we have seen are more likely to be permanent. It's not what we wanted to hear."

Mortgage lending fell by 20 per cent in the first quarter of this year, according to the Irish Banking Federation. Analysts are expecting lending to decline by 17 per cent this year. An interest rate increase from the ECB next month would certainly not improve this.

"We don't need rate increases right now," said David Drumm, chief executive of Anglo Irish Bank. "Rate increases squeeze borrowers and that would have a decelerating effect on demand."

He said the housing slowdown has been "curing itself slowly", but an ECB rate hike would not help.

The chief executives at the State's two largest mortgage lenders, Irish Life Permanent (ILP), which owns Permanent TSB, and Bank of Ireland, pointed out last month that financial institutions would have to keep raising mortgage rates if the raw material cost of money remained at its current elevated level.

The three-month wholesale euro rate - the benchmark for mortgage lending - has remained stubbornly high. Since April 29th, it has been stuck at 4.86 per cent, or 0.86 of a percentage point above the ECB rate, compared with a margin of 0.1 per cent before the credit crunch.

Bank of Ireland chief executive Brian Goggin has said that Irish banks have passed on about half this margin to customers and were likely to pass on "half that again".

Wholesale rates are driven by supply and demand for money in the interbank market, which has been rocked by the credit crisis.

Sebastian Orsi, banking analyst at stockbrokers Merrion Capital, said interbank rates could rise again if the ECB rate rises.

However, one senior banker said the ECB rate has become an irrelevant gauge of their costs and the interbank rate could absorb some of a rate hike from the ECB.

The financial crisis has already forced many Irish lenders to raise tracker and fixed rates on new mortgages. Customers who signed up to lower tracker rates before the market turmoil began have so far been cushioned from the recent increases. Next month, they could feel the effect of record euro-zone inflation rather than the credit crunch.