ECB aims for gradual rate hikes

March 16, 2011 - 0:0
FLORENCE, Italy (Reuters) - The European Central Bank aims to ""re-normalize"" interest rates gradually to head off any increase in inflation expectations, ECB board member Lorenzo Bini Smaghi said on Monday. ""The ECB needs to be ready to react immediately to prevent any increase in inflation expectations,"" Bini Smaghi said at a conference in Florence. ""We indicated to markets that they should prepare for a re-normalization of interest rates."" ""It's better to do it gradually,"" Bini Smaghi said, adding that if the ECB left rates on hold for longer it would run the risk of eventually having to raise them more steeply. Interest rates will need to rise to a ""level that is more reflective of a situation of economic recovery, even a modest one,"" he said. Bini Smaghi also welcomed as ""satisfactory overall"" Saturday's agreement by European Union leaders to tackle the euro zone debt crisis. ""I think we will come out with a euro zone that is more stable, more solid, stronger and with more credibility,"" he said. Leaders agreed to strengthen the euro zone bailout fund, make its loans cheaper, lower the interest rate on funds extended to Greece and let the bailout fund buy the bonds of distressed euro zone member states in the primary market. Bini Smaghi said the euro zone must also respond correctly to the results of the latest round of bank stress tests, to be made public by June, particularly as the last round was ""not fully satisfactory."" It's important to give markets confidence by showing that banks have sufficient capital or have plans to raise the necessary capital if the tests show that is needed, he said. The increase in inflationary risks came both from higher commodity prices, which are likely to be a permanent trend, and from economic recovery, especially in emerging economies, he said. He noted that the euro zone risked importing inflation from China, where consumer prices were already rising at an annual rate of around 5 percent. The rise in oil prices was due to increased demand by emerging countries and was a trend already in place before recent unrest in the Middle East and which ""we will have to get used to,"" he said. Bini Smaghi also warned of the economic effects of the devastating earthquake that struck Japan -- on Japan itself, its trading partners and possibly also on financial markets. ""It will have a very strong impact on the Japanese economy and will reduce (Japanese) imports that Italy specializes in,"" he said. ""There will of course also be an increase in Japanese public spending that may have an impact on financial markets.""