ECB Interest Rate Up

In the eighth increase in 18 months matching the vigor euro-zone growth, the European Central Bank lifted its benchmark refinancing rate by a quarter of a point to 4 percent, the highest reading for five and a half years.

ECB President Jean-Claude Trichet said the bank's monetary policy remained on "the accommodative side," adding that Wednesday's move was to counter inflationary risks expected to ease in the near term before rising significantly later in the year.

Wages were rising faster than the bank had expected, he said.

The bank revised upwards its 2007 inflation forecast in the 13-nation euro zone to 2 percent from 1.8 percent previously but held its prediction for next year at 2 percent, roughly consistent with its preferred level.

The bank has set itself an upper target limit for inflation of 2 percent because experience has shown that beyond this level, people anticipate price rises, thereby adding to inflationary pressures.

"Still accommodative"

"After today's increase, given the positive economic environment in the euro area, our monetary policy is still on the accommodative side, with overall financing conditions favorable, money and credit growth vigorous, and liquidity in the euro area ample," Trichet told a news conference.

A reference to an "accommodative" stance is seen as a signal that more rate rises could be approved in coming months but not necessarily at the next meeting of the bank's policy-making body.

Trichet said the bank was making no pre-commitment on future rate moves but also stressed that it would do whatever was needed to control inflation.

"The (ECB's) governing council will monitor closely all developments to ensure that risks to price stability over the medium term do not materialize," he said.

Raised euro zone growth forecast

The bank also Wednesday raised its euro-zone growth forecast for this year to 2.6 percent from 2.5 percent and lowered its prediction for 2008 to 2.3 percent from 2.4 percent.

In London, the euro which had firmed before the decision, weakened on Trichet's comments on future rate policy that were seen as vague by traders. The single European currency was changing hands at $1.3501 against $1.3519 late Tuesday in New York.

Prior to the announcement many market analysts were predicting a further tightening to 4.25 percent when the bank policymakers convene in September.

"A growing number of investors are even speculating about an increase to 4.5 percent," said Commerzbank treasurer Ryohei Muramatsu in Tokyo.

The head of the German central bank, Axel Weber, who sits on the ECB's governing council, left no doubt in a recent interview that further rate rises were likely.

"The current cycle of interest rate hikes has not reached its end," he told the Financial Times.

"What is pretty clear is that we are in a stronger than previously expected recovery," he said. "If necessary we will also have to move into a territory that is portrayed as being restrictive, if that is needed to control inflation."

Perhaps unsettling for some

Although widely expected, the latest increase by the ECB was likely to unsettle political figures in several euro-zone members, notably France, who contend that the bank's monetary policies are driving up the euro and dampening growth.

While interest rates in the 13-nation euro zone have been on the rise for the past year and a half, they have stagnated in the United States, where the benchmark federal funds rate has been at 5.25 percent since last June.

That differential has made the euro more attractive to investors, increasing its value and thereby -- in principle -- threatening the competitiveness of euro-zone exports and ultimately growth.

The differential reflects sharply different growth trends in Europe and the United States.

"The euro area economy is moving from recovery to upswing," the International Monetary Fund said in a report on Tuesday, which foresaw euro-zone growth of 2.5 percent this year as well as sustained momentum in 2008.

The European Union's executive commission predicts a pace of 2.6 percent this year, while the OECD in Paris sees euro-zone expansion of 2.7 percent.

Could eclipse US

At those rates the euro zone would eclipse both the United States, where the IMF is forecasting momentum of just 2.2 percent, and Japan, 2.3 percent.

Taking note of euro-zone growth and inflation prospects, the IMF said on Tuesday that higher interest ECB rates would be warranted.

Meanwhile, in the United States, investors have reduced their expectations that the Federal Reserve, the central bank, will need to cut rates in response to a slowdown in the world's largest economy.

The Fed is also focused on fighting potential inflationary pressures amid surging fuel prices.

And on Tuesday, Fed Chairman Ben Bernanke, who foresaw an improvement in the US economy in the coming months, said that "although core inflation seems likely to moderate gradually over time, the risks to this forecast remain to the upside."