The announcement that consumer prices have increased by 0.5 per cent in the past month - the largest monthly increase for some time - will raise fears about inflationary pressures in the economy. Both the Economic and Social Research Institute (ESRI) and the International Monetary Fund (IMF) have warned recently about the dangers of overstimulating demand; the IMF, in particular, has expressed concern that the economy could be overheating.
The reality, however, is that the inflation figures probably give little cause for immediate concern. Most of the increase can be explained by the increase in petrol prices, VHI contributions and the end of the summer sales. The Irish inflation rate is still the lowest in the EU - even though the economy is enjoying unprecedented levels of growth. And the price of everyday items like food remains remarkably stable as some of the newly-arrived British multiples deliver lower prices to Irish consumers.
Most commentators believe that the inflation rate has probably bottomed-out at the present level. The expectation is that the currency changes and the promised tax cuts in the Budget will combine to push inflation on to an upward trajectory. This is only a tentative judgment; in the past twelve months the very low level of Irish inflation has continued to confound the experts. Inflation has been the dog that did not bark. But the balance of probability would suggest that current concerns about inflation should be taken seriously.
At this juncture, the outlook for Irish interest rates seems more hopeful. Yesterday's decision by the Bundesbank to raise its key money market interest rate does not appear to have major implications for Irish rates. The Bundesbank is clearly determined that Germany should not enter the currency union at the current low interest rates; its seems intent on ensuring greater convergence with other European rates.
Irish interest rates are probably heading in the opposite direction; downward towards the German rate. There are good grounds for optimism that Irish rates will fall by as much as two per cent in the next 18 months. This will be very good news for existing mortgage holders but it will place new strains on first time buyers and it could push up property prices. All of this will present major difficulties for policy makers. Traditionally, government has adopted a relatively relaxed approach to any surge in property prices by allowing the market to take its course. The Government may have signalled a change of course with its recent decision to establish a study on house prices. Certainly, any further hike in property prices and rental rates will place renewed pressure on the Government to take a more interventionist approach. The results of its deliberations on house prices will be awaited with interest.