ECB raises benchmark rate to 4.25 pct

July 3, 2008 5:25:43 AM PDT
The European Central Bank raised its benchmark interest rate Thursday by a quarter percentage point to 4.25 percent in an effort to reign in escalating inflation in the 15-nation euro zone. The move comes despite worries in some quarters that it could dampen growth. Bank president Jean-Claude Trichet was expected to explain the decision at a news conference, with attention focusing on whether more increases are coming.

Trichet has stressed that his main objective is to keep prices stable, and all but promised an increase this month at last month's meeting. But he has also suggested that repeated interest rate hikes are probably not likely.

Inflation has been troubling central banks around the world as commodity prices including oil and food have spiked in a surge of new global demand. While higher interest rates slow inflation, they can also slow economic growth as money becomes more expensive to borrow; Trichet appears to have targeted inflation as the bigger threat.

At the ECB's June meeting, Trichet said members of the bank's governing council stated a case for raising rates to combat inflation even then.

On Monday, the EU statistics agency Eurostat said inflation in euro nations hit a record 4 percent in June, double the ECB's inflation target of below or around 2 percent.

The Bank for International Settlements - a sort of central bank for central banks - also said Monday that world headline inflation has risen significantly to 4.75 percent.

Higher euro zone interest rates tend to send its currency higher against the dollar as investors park money where it earns more interest. Meanwhile a sinking dollar generally boosts the price of oil, which is denominated in the U.S. currency, as more buyers move in.

Earlier Thursday, oil reached another record high. Light sweet crude oil for August delivery on the New York Mercantile Exchange.rose $2.28 to a record $145.85 a barrel in electronic trading by midday in Europe.

"The fact that a hawkish note from the ECB today could hit the dollar hard and in turn push oil prices to fresh record highs and on toward that massive $150 a barrel level also needs to be taken into account," said James Hughes, a currency analyst with CMC Markets in London.

"Couple this with the likes of the euro zone retail sales data and there's going to be an awful lot to digest in the near term," Hughes said.