The surprise news from today's European Central Bank (ECB) rate meeting wasn't the clear signal that rates will be going up next month, but the announcement that the August 3 meeting will be conducted face-to-face, rather than via teleconference as is traditional for the vacation-period meeting. As we pointed out last week (June 27, 2006: Sentiment Revives in Germany While Some ECB Members Sound More Hawkish) the ECB's August-September meeting schedule shifts. Usually, there's an early-August meeting via teleconference with no press statement scheduled - i.e., not a policy meeting - followed by a late-August policy meeting, then a break until early October. Making the August 3 meeting a face-to-face, combined with Trichet's unambiguous signaling of an imminent rate hike, points to a 25bp increase in the repo rate on August 3 - and suggests at least two more hikes before the year is out. It even opens up the tantalizing option of another 25bp hike on August 31.
Somewhere over the past 10 days, Trichet has crafted a more hawkish consensus among his 18 Governing Council members. The "permanently alert" of early last week has morphed into "strong vigilance so as to ensure that risks to price stability over the medium term do not materialize." The ECB's statement listed the risks to the outlook for price developments, including not only further oil price increases, but also - and more important - a stronger pass-through of higher oil prices to the consumer, and stronger wage and price developments from second-round effects.
The statement pointed to continued strong growth in M3 - May's annual increase of 8.9% was the highest in just over three years - and to continued double-digit increases in loans to the private sector.
Other recent data underpin the sense of a broader and deeper recovery in the Euro-zone economy. June's service sector activity index hit 60.7, up from 58.7 in May and the highest in six years. The survey also reported that firms raised their prices faster than at any time since November 2000. Similarly, the manufacturing sector PMI climbed to 57.7 in June (57.0 in May), another six-year high, with the input price index climbing for the third consecutive month, to 71.5 (71.1 in May), and the output price index reaching 56.0 (55.6 in May).
Industrial producer prices rose an annual 6.0% in May, the steepest rise in nearly six years, and boosted not by oil prices per se, but by higher prices for unfinished goods and raw materials. That's a sign that higher oil prices are starting to filter through the supply chain.
Last week, the European Commission released its quarterly assessment of the 'zone economy, which noted that "EU consumers' expectations of price rises in the coming months have intensified." The ECB is known to pay careful attention to expectations surveys.
Finally, there's also the impact of an all-European World Cup final on Euro-zone growth over the coming 12 months. The second- and third-largest 'zone economies meet in Sunday's match. Whoever wins will see a boost to consumer sentiment that will translate into higher GDP growth heading into 2007. And while the largest Euro-zone economy didn't make it to the final, it is hosting the event, to the delight of its retailers. Add it all up, and "football fever" will be a net Euro-zone positive.
Data and statements will be analyzed closely over the coming weeks. An August 3 25bp rate hike is near-certain. There would have to be a marked increase in inflation-related indicators for the Council to go for 50bp. A second 25bp rate hike on August 31 is a possibility - the August 3 meeting statement will be key - but for now we assume the Council will move on October 5, and perhaps again on December 7.