Fully aware that countries such as France had been hoping a German monetary policy easing would take the risk out of their own desperately needed rate cuts, the Bundesbank has concentrated on its national preoccupations by leaving the trend-setting discount rate at 6.75 per cent and the Lombard rate at 7.75 per cent.
European currencies and the dollar fell after the German decision was announced. The French franc lost more than 3 centimes to Fr3.4665 to the mark. The US currency shed almost 2.5 pfennigs to DM1.6685. But the decline was tempered by the view that German rates would have to come down eventually, and some Continental interest rates might be cut more rapidly. In Britain, analysts believe a rate cut is on hold until mid-autumn.
Apart from the Frankfurt stock exchange, European bourses closed higher, with Paris hitting a new record. London shares recouped early losses, ending unchanged.
Alison Cottrell of Midland Global Markets argued that countries that cut their rates more rapidly than Germany would find their currencies supported by rising equity markets as investors anticipated a return to growth. 'Currencies in rate-cutting economies now have equity-linked seatbelts to stop them crashing straight through the ERM windscreen.'
The decision, at the eagerly awaited first central council meeting after the summer break, suggested that the Bundesbank remained concerned about excessive M3 money supply growth, which reached 7.5 per cent in July against a 4.5-6.5 per cent target range and the prospect of even higher growth in August swollen by intervention during the exchange rate mechanism crisis.
The German central bank also appears unhappy with stubbornly high inflation. Even though it slowed slightly in August to 4.2 per cent year- on-year from 4.3 per cent a month earlier, that was not regarded as sufficiently encouraging by the Bundesbank because it is traditionally at a seasonal low at this time.
'The Bundesbank clearly defined its priorities in the new context of differing European monetary policies. It is telling the others that they can move to lift their economies out of recession, but Frankfurt's overriding task remains fighting inflation,' Gerhard Grebe, chief economist at Julius Baer Bank, said. Analysts spoke of a strong impression that France's standing was low within the Bundesbank, notably because of French claims in the summer that the franc was becoming Europe's anchor currency.
'The message to the French especially is that they now have to prove on their own what they are worth and what they can do,' Mr Grebe said. The Bundesbank's decision yesterday to sit on its hands coincided with the visit to Bonn of Edouard Balladur, the French Prime Minister, for talks with Chancellor Helmut Kohl. Mr Balladur earlier this month had blamed the near collapse of the ERM on the Bundesbank, after its decision not to deliver widely expected rate cuts plunged the currency markets into chaos. Displaying little desire to comment on the Bundesbank's move yesterday, Mr Balladur said only half-jokingly: 'Actually, my visit was rather a reason not to decide anything.'
Since the ERM crisis and the widening of fluctuation bands to 15 per cent, Germany's partners have been reluctant to use this new freedom. 'The situation that has persisted over the past month cannot go on and other governments will have to bite the bullet and start cutting interest rates,' Gerard Lyons, chief economist at DKB International, said. France has trimmed its rates since the crisis, but only by cutting the overnight lending rate, not the more important 6.75 per cent intervention rate.
German economists remained divided over how the Bundesbank would use its own newly-won freedom, now that it barely has to worry about other currencies in the semi- floating ERM. Some expect it to be even more cautious as it concentrates on decisively turning the corner on inflation and money supply growth. Others said yesterday's decision can only have put off an easing until the next meeting on 9 September.
Hamish McRae, page 33Reuse content