Europe marches to own economic beat

As the US economy sputters and Japan slides into torpor, the world is pinning its hopes on Europe to take up the slack and ward off a global recession.

But the European Central Bank, alone among major central banks, is refusing to follow Alan Greenspan's lead and cut interest rates to spur economic growth.

That stand, say analysts, points up fundamental differences in the roles that the European and US central banks play. It also reflects a feeling in Europe that authorities here can't really offer much help.

"The ECB cannot do that much," says Vincent Koen, an economist with the Paris-based Organization for Economic Cooperation and Development (OECD). "A rate cut won't save the cycle, and Europe is not the locomotive that will pull the world out of a difficult spot."

Growth predictions for 2001 are being revised downward across the globe: the International Monetary Fund (IMF), meeting over the weekend, put worldwide growth at around 3 percent this year, down from 4.7 percent in 2000.

In recent days, US Treasury Secretary Paul O'Neill, the IMF, the OECD, and the United Nations Conference on Trade and Development have all urged ECB President Wim Duisenberg to cut interest rates from their current 4.75 percent level, where they have been since the beginning of the year. The Federal Reserve has cut its rates four times in that period, to 4.5 percent.

"I hear, but I do not listen," Mr. Duisenberg said in response to the pressure earlier this month.

The ECB's prime concern is not with growth, but with inflation, which is running at 2.6 percent a year in the countries using Europe's common currency, the euro. That is well above the 2 percent target the bank has set.

The law that set up the infant central bank two-and-a-half years ago makes price stability its overriding priority, following the German tradition. Everything else is secondary, points out Gernot Nerb, an economist at the Munich-based IFO think tank. "The ECB, like the Bundesbank, does not see its principal task as stimulating the economy," he says. "By far the most important role is fighting inflation."

Mr. Greenspan at the head of the Federal Reserve, by contrast, has the freedom to take growth and job creation into account when he decides on interest rates. "He is much more convinced that monetary policy should play a role in short-term economic policy," says Dr. Nerb.

The ECB, meanwhile, "deliberately does not pay attention to short cycles, because by the time you react, the economy will have moved on," explains Peter Jarret, an OECD analyst.

Since it takes a year or so for interest rate cuts to make their full impact felt, no move by the ECB would have much of an effect anyway on stimulating immediate economic activity. At the same time, analysts point out, money is cheaper at the moment than it has been for 25 years in Europe, and the European Union's predicted 2.8 percent growth rate this year is in line with its overall potential.

Some defend the ECB's dogged insistence on sticking to its guns despite Washington's pressure. "It looks as if the US wants the European Union to sacrifice its future stability to allow the US to continue to grow very fast," says Paul Horne, a London-based analyst with Salomon Smith Barney, an investment bank. "America is coming off a steamy five years and now we want help."

Certainly, the public pressure is unlikely to work, and may even be counterproductive. The new bank, nursing an infant currency, is still establishing its independent credentials and is thus especially reluctant to show any signs of bending to outside sentiment. "They have to be more hawkish than Greenspan and the Fed, who already have a reputation," argues Nerb.

But there is a danger the bank might go too far, and though a rate cut would have only a limited mechanical effect, its psychological impact would be greater and more swiftly felt.

"If Europe went into real recession, that would not help the ECB's credibility," warns Mr. Koen. "Fixation on an inflexible definition of price stability is not very helpful in the long run, but they have locked themselves into it."

Eventually, and likely by the summer, everyone agrees, the ECB will cut its interest rates. But only when Mr. Duisenberg sees no further threat of inflation - and probably when the markets least expect it. That way, says Nerb, "the psychological impact will be greater."

(c) Copyright 2001. The Christian Science Monitor