BoE leaves rates on hold as global tightening nears end

[NesmithDJ]

By Matt Falloon and Niklas Pollard

LONDON/STOCKHOLM (Reuters) - The Bank of England held interest rates steady on Thursday with investors expecting the European Central Bank to do likewise, marking the likely peak of the global rates cycle as growth risks start to outweigh inflation worries.

The BoE left rates at 5.0 percent for a fifth month running with expectations rising that recession worries could prompt a cut before the end the year.

The ECB is widely expected to leave their rates unchanged later on Thursday, with policymakers worldwide increasingly looking to the risk of slowing global growth outweighing the problems of inflation, which is easing as commodity prices fall.

"You could say that global tightening is coming to an end. Most central banks will use the excuse of slightly weaker growth and a turning point in inflation to stop raising rates," said Robert Prior-Wandesforde, an economist at HSBC in Singapore.

"In the developed world that is more than justified because interest rates, excluding Japan, could be described as tight."

Sweden's Riksbank had earlier increased its key interest rate by a quarter percentage point to 4.75 percent, following Indonesia's central bank which earlier in the day raised rates for the fifth time this year. Analysts regarded both moves as the last rise by either central bank this year.

The Riksbank's rate rise -- the 13th in a series that began in January 2006 -- was in line with the expectations of a narrow majority of economists polled by Reuters before of the meeting. However, some had believed a worsening economic outlook would persuade the bank to hold fire ID:nL4501945.

The Riksbank said raising rates would bring inflation close to its 2 percent target within a couple of years, but it lowered its rates outlook "partly because the oil price and other commodity prices have fallen. Moreover, growth has slowed down more than expected both in Sweden and abroad".

Meanwhile the speed and scale of Britain's economic slowdown means interest rates could come down quite rapidly once inflation -- roughly double the central bank's 2 percent target -- has peaked. Money markets are pricing in a good chance of three quarter-percentage point cuts by this time next year.

The economy failed to grow in the second quarter for the first time since the recession of the early 1990s and activity surveys show most parts of the economy are now contracting.

"Given our view that the UK has entered recession and is unlikely to exit until next summer, we believe that price pressures will moderate and this will open the door for aggressive interest rate cuts. We see the policy rate falling to 3.50 percent in 2009," James Knightley, an economist at ING in London said.

The BoE's nine-member Monetary Policy Committee was split three ways last month. Tim Besley wanted to raise rates to make sure high inflation did not spread through the economy. David Blanchflower wanted to cut rates to ease economic pain.

ECB SEEN ON HOLD

The ECB began its monthly meeting of 21 policymakers at 0700 GMT, with all 83 analysts polled by Reuters expecting interest rates to be left at 4.25 percent when the decision is announced at 1145 GMT. <ECB/INT>

Updated projections from the bank's staff will give an up-to-date prognosis of the economic outlook which is not expected to make happy reading. Analysts expect 2008 and 2009 growth forecasts be revised down and inflation predictions to be pushed up for 2008 at least.

"The ECB will have to acknowledge that the growth outlook has weakened and we expect the staff forecast to be revised down for 2009, probably to a mid point of 1.2 percent," said Deutsche Bank economist Thomas Mayer.

Inflation though remains the key concern of the ECB. It eased only slightly to 3.8 percent in August, roughly double the ECB's target.

GROWTH VERSUS INFLATION

The growth versus inflation dilemma is playing out around the world. Earlier in the day Bank Indonesia satisfied market forecasts with its fifth interest rate rise of the year, but economists predicted that this would mark the final increase in 2008 because of signs that inflation is peaking.

It increased its overnight rate BIPG by 25 basis points to 9.25 percent to combat inflation that is close to 12 percent.

Canada's central bank held its key interest rate steady on Wednesday but signaled it was in no hurry to cut rates soon, even as it warned that the U.S. economic outlook could worsen. The move was widely expected and leaves the rate 1 percentage point higher than the U.S. equivalent.

Turkish central bank governor Durmus Yilmaz said on Thursday the bank will consider all options, including measured interest rate cuts, from September when its board meets amid improving inflation conditions.

The bank would amend its monetary policy stance if oil and food price falls are permanent, Yilmaz told a conference.

Turkey left benchmark borrowing rate unchanged at 16.75 percent last month after raising rates by 150 basis points since May due to worsening inflation. Inflation in August was lower than expected due to a sharp fall in clothing prices.

Chile's central bank is widely expected to raise its benchmark interest rate by 50 basis points for a fourth month in a row, due to persistently rising consumer prices. The authority meets later on Thursday.

But HSBC's Prior-Wandesforde said that while inflation was peaking around the world, it was not set to collapse. That may mean central banks in emerging markets join in the pause in the present tightening cycle, but may have to raise again in future.

"In the emerging world monetary policy is very loose and behind the curve. They've been playing catchup but haven't caught up," Prior-Wandesforde said.

(Additional reporting Adriana Nina Kusuma in JAKARTA, Jan Dahinten in SINGAPORE, Krista Hughes in FRANKFURT, Christina Fincher in LONDON, Louise Egan in OTTAWA, and Maria Jose Latorre in SANTIAGO)

(Editing by Nick Edwards, Neil Fullick, David Stamp)