STEVE CHIOTAKIS: You know what else is up? Interest rates in Europe. The European Central Bank today raised its key rate by a quarter of a percent. That comes just as Portugal asks for a $100 billion European bailout. It’s the first time in 40 years a major European bank didn’t take its cue from the U.S. Federal Reserve.
Carl Weinberg is chief economist with High Frequency Economics. Good morning.
CARL WEINBERG: Hi.
CHIOTAKIS: So, I want to talk about this because when you raise interest rates, how is that going to effect a country like Portugal or Ireland or Greece — these countries that are struggling with debt?
WEINBERG: Well, one of the first implications you’re going to have is that interest rates for the countries — borrowing costs will go up. And that’ll squeeze their public finances. Also their banks are going to have to find it more expensive to be funding themselves. And a lot of those banks have balance sheet problems and lending problems. Squeezing their profits are going to make them shakier, and if more of them fell, more countries can come under the gun as well.
CHIOTAKIS: Let’s bring this back home Carl, because I know inflation is something the Fed is keeping its eye on as well. Why is the Fed keeping its interest rates steady right now?
WEINBERG: Well, the Fed is first of all different from the ECB in that it has a joint mandate to both watch the health of the overall economy, and inflation. These ECB claims that its only mandate, its sole responsibility, is to guard against inflation. So it can say, and apparently it has said that it’s worried only about keeping prices stable. Another difference comes from the analysis that the two central banks use. The Fed looks at core prices — the prices of things that it can influence. The prices of things that on trend correlate well with its monetary policy. The ECB chooses instead to look at top line consumer prices, which include transient shocks to energy, transient shocks to food prices and that gives them a higher rate of inflation within their view finder than the Fed is looking at.
CHIOTAKIS: When you say transient shocks, what does that mean?
WEINBERG: A transient shock would be something like oil prices. Crude oil has gone up 50 percent in the last six months. That has increased the consumer price index at a very rapid rate, but unless those price increases occur again, then we will see those impacts work out of the inflation rate within a year.
CHIOTAKIS: What affect do you think this rate hike in Europe is going to have on U.S. banks?
WEINBERG: We don’t know for sure. We don’t understand what these linkages are, we can’t see them, just as when Lehman Bros. folded, a lot of vulnerabilities to Lehman Bros. that we never suspected appeared, we have unknown unknowns in the linkages between American banks and European banks, and we just have to be on our toes because anything can happen.
CHIOTAKIS: Carl Weinberg with High Frequency Economics. Carl thanks.
WEINBERG: Thank you.
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