ECB sees prices rising

Inflation is likely to climb further and exceed the European Central Bank's target for most of the year but poses no threat yet to medium-term price stability, President Jean-Claude Trichet said on Thursday. Euro zone inflation accelerated to a 15-month high of 2.4 percent last month and Trichet said it would hold above the ECB's target of just below 2 percent for much of 2011.
-- Trichet says no threat yet to medium-term price stability
-- ECB keeps rates at 1 percent as expected
However, he did not escalate last month's noticeably sharper tone, which jolted markets, saying the bank's assessment of inflation dangers had not changed over the past few weeks. "We continue to see evidence of short-term upward pressures on overall inflation, mainly owing to energy and commodity prices," Trichet told a news conference after the bank left interest rates at a record-low 1.0 percent as expected.
"This has not so far affected our assessment that price developments will remain in line with price stability over the policy relevant horizon. At the same time, very close monitoring is warranted," he said. He repeated January's warning that inflation risks could move to the upside.
Despite that, the euro dropped against the dollar as markets focused on the ECB's view that inflation expectations remained firmly anchored, dipping to $1.3650 by 1645 GMT compared with around $1.375 when Trichet's news conference began. "The underlying message is that there is no need for a rate hike anytime soon," said Boris Schlossberg, director of currency research at GFT in New York.
Analysts also pointed to the fact that Trichet did not repeat last month's reminder that the ECB raised rates against the grain in mid-2008 shortly before the financial crisis took a turn for the worse with the collapse of Lehman Brothers. "He was slightly tempering expectations for an earlier-than-expected rate hike," said Danske Bank analyst Anders Moller Jorgensen. "Prior to the (ECB) meeting the first rate hike was priced for August and just after the meeting it was priced for September."
Financial markets brought rate hike expectations forward last month following the ECB's January inflation warning, although economists polled by Reuters see no change until Q4. Along with rising headline inflation, there are signs of upward pressure in the pipeline - producer prices rose more than expected in December, boosted mainly by a jump in energy costs.
Trichet also bolstered expectations that the ECB could restart the process of scaling down its array of crisis support measures for liquidity-starved banks next month. The flare up in bond market tensions at the end of last year forced the ECB to back track on plans to reel in aid in December, but the bank appears to be preparing itself again following the recent pick-up in money markets.
There was an acknowledgement that problems remain, however, stoking belief the bank will keep limit-free lending in place for short-term one-week funding. Trichet also said the ECB's government bond buying programme to prop up the debt of weaker euro zone members was "ongoing". The ECB bought no bonds for the first time since October last week, reflecting calmer debt markets and amid growing talk about the eurozone's rescue fund, the EFSF, taking over that role in future.