LONDON (Thomson Financial) - The euro clawed back some losses against the dollar after the head of a leading research institute in Germany suggested that the European Central Bank should raise borrowing costs if inflation remains high.
The ZEW's president Wolfgang Franz, a prominent academic, said that the ECB will raise interest rates in the coming months if inflation remains elevated in the euro zone, even though the survey from his institute suggested that the German economy is feeling the impact from the strength of the euro and high energy and food prices.
'More precisely, Franz explained that, in his view the ECB should keep rates constant until the financial market crisis ends but that the ECB may then need to raise rates to fight inflation,' said Holger Schmieding, analyst at Bank of America.
'As Franz seems to hope that the financial crisis could end soon, he thus seems to believe in higher ECB rates in the foreseeable future,' he added.
Initially, the euro suffered a knee-jerk drop from survey. ZEW said its economic expectations index for Germany dropped to minus 41.4 points in May from minus 40.7 points in April, largely because of the strength of the euro and high oil and food prices.
The decline was unexpected. Economists polled by Thomson Financial News had expected the index to rise to minus 38.0 points. Following the data's release, the euro fell from $1.5605 to a low of $1.5536, before climbing up to a day's high of $1.5674 following Franz's comments.
Before the ZEW, the euro had been buoyed after forecast-busting German producer price inflation further cemented market expectations that the European Central Bank will not be cutting interest rates any time soon.
Figures from the Federal Statistics Office showed that producer prices in Germany rose 1.1 percent in April from March for a 5.2 percent annual gain.
Both were higher than expectations. Economists polled by Thomson Financial News had expected a 0.5 percent increase month-on-month and a rise of 4.7 percent year-on-year.
The ECB has kept its rate at a six-year high of 4 percent since last June and is widely anticipated to maintain its rate until the end of the year as inflation concerns remain to the fore.
The single currency has been underpinned of late by hawkish comments from the ECB, which continues to sound worried about inflation.
Last week, ECB president Jean-Claude Trichet said the central bank must be 'extraordinarily attentive' to inflation and that it 'is paying particularly close attention to wage negotiations in the euro area'.
After the ZEW, attention will move to the U.S., where producer price data will also be published. April's Producer Price Index is expected to have increased 0.4 pct following a 1.1 pct increase in the previous month, while the core rate, which excludes highly volatile food and energy costs, is expected to have increased 0.2 pct in April, the same rate as in March.
Since it began easing rates in September, the Fed has lowered rates by a cumulative 325 basis points to 2 percent, the lowest since December 2004.
The inflation data will be key to any further rate reductions from the Fed.
Elsewhere, the Australian dollar rose to a 24-year high of $0.9615 this morning after the Reserve Bank of Australia (RBA) said it stands ready to hike interest rates further if domestic demand doesn't cool sufficiently to bring annual inflation back within its target range of 2-3 percent, according to minutes from the central bank's May 6 policy meeting released on Tuesday.
The minutes showed the central bank board members spent considerable time discussing the case for a further rise in the RBA's cash target rate, currently at a 12-year high of 7.25 percent,following a series of tightening moves, the last one done in early March.
'The Aussie dollar is likely to remain in the favourites list given that the minutes of the last RBA meeting reveal a central bank that clearly came within a whisker of hiking rates again,' said Simon Derrick, currency strategist at Bank of New York Mellon.
London 1130 GMT London 0720 GMT
U.S. dollar
yen 104.02 up from 103.86
Swiss franc 1.01414 down from 1.0458
Euro
U.S. dollar 1.5636 up from 1.5582
yen 162.68 up from 161.84
Swiss franc 1.6297 unchanged 1.6297
pound 0.7965 down from 0.7967
Pound
U.S. dollar 1.9628 up from 1.9556
yen 204.19 up from 203.10
Swiss franc 2.0456 up from 2.0447
Australian dollar
U.S. dollar 0.9593 down from 0.9597
pound 0.4887 down from 0.4906
yen 99.80 up from 99.68 pan.pylas@thomsonreuters.com pp/ra COPYRIGHT Copyright Thomson Financial News Limited 2008. All rights reserved. The copying, republication or redistribution of Thomson Financial News Content, including by framing or similar means, is expressly prohibited without the prior written consent of Thomson Financial News.
© 2008 AFX News
