Thursday, August 23, 2007

Central Banks Raise Rates as Turmoil Spare Growth

-- Central bankers from Santiago to Seoul are raising interest rates to fight inflation in a bet that this month's global financial-market turmoil won't derail economic growth enough to contain prices at home.

While U.S. Federal Reserve Chairman Ben S. Bernanke is under pressure from investors to loosen monetary policy, his counterparts in Australia, Chile, China, Norway, South Africa, and South Korea are among those lifting borrowing costs.

The central-bank increases, even after a plunge in the U.S. mortgage market roiled global stocks and bonds, underscore the strength of the global expansion, and may reassure otherwise skittish investors, economists say.

``The global economy continues to lend support and stability to the U.S.-generated global credit squeeze,'' said Joseph Quinlan, New York-based chief market strategist at Bank of America Capital Management.

Central banks are basing their rate-increase decisions on their view that inflation remains a bigger threat to their economies than the fallout from the subprime-mortgage slump. The International Monetary Fund predicts global growth of 5.2 percent this year, driven by China and India, helping to spur prices for oil and food.

``We have to be focused on the inflation target,'' Reserve Bank of South Africa Governor Tito Mboweni said Aug. 16 after raising the repurchase agreement rate to 10 percent. Norway's central bank, lifting its benchmark to a four-year high of 4.75 percent the previous day, said that while ``recent credit and stock market turbulence has generated uncertainty,'' it ``does not now warrant'' suspending the fight against inflation.

Lobbying the Fed

By contrast, investors are lobbying the Fed to cut rates. The Fed said Aug. 17 that a policy shift was needed to insulate the U.S. economy from the subprime collapse, dropping language in its statement indicating a bias toward battling inflation.

Futures trading suggests Fed policy makers will cut their benchmark from 5.25 percent at their Sept. 18 meeting, at the latest. Investors say that if rates aren't reduced, prices of stocks and other assets will drop, threatening to tip the world's largest economy into recession.

The Fed has so far resisted calls for a cut in its benchmark rate. Richmond Fed Bank President Jeffrey Lacker said Aug. 21 that policy must be guided by the outlook for economic growth and prices, not entirely by markets.

ECB Message

The European Central Bank signaled yesterday it may stick to plans it will raise its benchmark interest rate from 4 percent when policy makers convene Sept. 6, prompting traders to scale back bets of a possible cut in 2008.

Even as it pumped cash into the banking system, the Frankfurt-based central bank said ``the position of the governing council of the ECB on its monetary policy stance was expressed by its president'' on Aug. 2. That's when President Jean-Claude Trichet said the ECB would show ``strong vigilance'' on inflation, wording he's used over the past two years to signal when an increase is imminent.

Central-bank rates are still far from falling globally. The Bank of Japan today maintained its overnight lending rate at 0.5 percent and Governor Toshihiko Fukui said there's a risk keeping it too low will encourage risky investment.

China this week raised its benchmark for the fourth time since March to cool the world's fastest growing major economy after inflation surged to a 10-year high.

Latin America

In Latin America, Chile's overnight lending rate this month reached the highest in five years amid rising labor, food and energy costs. Colombia's central bank may raise its benchmark from 9.25 percent tomorrow, according to 11 of 21 economists surveyed by Bloomberg.

``The world economy has such momentum that some banks are just having to tighten,'' said Stephen Jen, head of foreign- exchange research for Morgan Stanley in London.

So robust are the inflation pressures that some central bankers have suggested they want to see the recent market declines take the world economy off the boil.

``Global growth has of late been sufficiently strong that some moderating effect would be welcome,'' Reserve Bank of Australia Governor Glenn Stevens said Aug. 17, nine days after raising the country's key rate to 6.5 percent in the first adjustment since November.

`Tightening Mode'

Interest rates may rise further in some economies. David Hensley, director of global economic coordination at JPMorgan Chase & Co. in New York, says 13 of the 22 emerging markets he monitors have central banks in ``tightening mode.'' He predicts rate increases in the euro-area, Japan, Mexico, Chile, Colombia, Peru, Sweden, Norway, Russia, Switzerland and Australia by the end of the year.

Policy makers may also have to raise rates to protect their currencies against potential capital flight, he says. Such a threat means he now expects Indonesia and Turkey to consider delaying possible cuts.

``While financial stress emanating from the U.S. is likely to produce easier monetary policy in the developed world, it poses a threat of tighter policies in emerging markets,'' Hensley said.

Rather than being spooked by higher rates, David Mann, senior currency strategist at Standard Chartered Plc in Hong Kong, says investors may find ``comfort'' in the push to tighter credit because of what it says about the fortitude of the global economy.

``That the world has such strong momentum is a definite cushion,'' he said. ``The worry for investors is that the financial market problems will have an economic impact and this is a comforting factor.''

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