Euro jumps as ECB holds interest rates

The European Central Bank surprised the financial markets yesterday by refusing to cut interest rates and giving no hint that it plans to take action in the near future.

The euro rose sharply against the dollar as traders scrambled to unwind their bets that the ECB would order a quarter-point cut to offset the damage to exports and business confidence the strength of the currency was wreaking.

The surprise was highlighted by the decision by the central bank of Sweden, which borders the eurozone and pegs its currency to the euro, to slash its main rate to its lowest level for a century.

Announcing the decision to keeps its refinancing rate unchanged at 2 per cent, the ECB president, Jean-Claude Trichet, said prospects were balanced for a slow but steady rebound in the eurozone, with inflation remaining well in check.

He struck a hawkish note, telling a news conference inflation "could edge up again over the coming months".

He added: "On balance, there is currently no evidence challenging the assessment of continued, though modest, real GDP growth over the short term."

The euro rose as high $1.2389 from $1.2316 late on Wednesday. Traders sold euros as speculation of a rate cut grew after analysts latched on to comments from Mr Trichet warning that weak consumption might force the ECB to rethink its stance. His doveish tone was echoed by fellow ECB members Klaus Liebscher and Guy Quaden.

Yesterday Mr Trichet insisted price stability was the only target - the "magnetic north", as he put it. "If the balance of risks to price stability changes, then we would change our own monetary policy stance," he said.

Economists said they were baffled Mr Trichet had reverted to the hawkish stance of his press conference at the start of March with no reference to his concerns over the health of consumer spending.

"We have to wonder whether the recent hints of rate cuts to come were misleading," said Martin Essex, a senior economist at Capital Economics, who still expects a half-point cut in the coming months.

David Page, an economist at Investec who had forecast no change, said the next move would be a rate rise, although not for another year. "There are signs the economy will achieve a gradual recovery this year," he said.

"But we think the ECB has undergone some sort of 'road to Damascus' conversion and should signs of recovery prove to be another false dawn, the ECB will be ready to cut rates almost immediately."