Bundesbank Pressured to Hold Line on Rates : Germany: The rest of the world wants to see a cut in sky-high interest levels. But problems at home could mitigate against it.
Germany’s central bank faces a decision today that will reverberate around the globe--whether to bring down Germany’s high interest rates.
To the rest of the world, the arguments that the Bundesbank should cut rates are compelling. A reduction would ease the turmoil on European currency markets, stimulate economic growth everywhere from the United States to Japan and give the weak U.S. dollar a much-needed boost.
But within Germany, all considerations of the world’s economic welfare pale beside the Bundesbank’s domestic concerns. Rising prices are eroding the value of Germany’s treasured deutsche mark, and a reduction in interest rates would only stoke the country’s inflationary embers.
“There is no room for reducing interest rates,” said Axel Siedenberg, chief of economic research for Deutsche Bank, Germany’s largest private bank.
Analysts have not entirely ruled out a rate cut when the Bundesbank’s governing council meets today in the eastern German city of Schwerin. Jim O’Neill, Swiss Bank Corp.’s chief currency monitor in London, said the Bundesbank and the Bank of France, which last week launched a joint defense of the French franc, might act simultaneously.
And if the Bundesbank does not act today, it may soon. The Salomon Bros. investment house predicts that German rates will begin falling by early next year and drop by a full 2 percentage points by the end of next year.
For now, however, the Bundesbank is feeling great pressure to hold the line. All too vivid is the torrent of domestic criticism that washed over it two weeks ago when it approved a small rate cut in return for an agreement by Italy to devalue its lira.
Probably in no other country would the public, confronted by the economic troubles that face Germany today, urge higher rather than lower interest rates.
In western Germany--the statistics from the new eastern states remain unreliable--economic output declined slightly in the spring and is believed to have fallen further this summer. A recent survey by the Ifo Institute for Economic Research found that 60% of German companies said production was level or dropping.
Lower interest rates are a common cure for a stagnant economy. But there is no groundswell of demand for lower rates in Germany--not as long as inflation lurks.
German inflation is running at an annual rate of about 3.6%, nearly double the Bundesbank’s target of 2%. Moreover, the German money supply is growing at a potentially inflationary rate of about 4%.
Even those who would benefit directly from a more robust economy are leery of a rate cut.
Gunter Albrecht, chief economist of the German Assn. of Commerce and Industry, has warned that German wages are rising faster than productivity. Wage pressures are particularly acute in eastern Germany, where workers are trying to catch up with their western counterparts.
Another source of inflationary pressure, Albrecht said, is the growing German budget deficit, which has been fueled by huge transfers of funds to the east.
“It would not be right to change interest rates before there are changes in wage policies and budget policies,” Albrecht said.
That would leave short-term German interest rates sky-high. Three-month government securities yield about 9% in Germany, against less than 3% in the United States.
The interest rate gap has triggered a tide of investment funds from the United States into Germany, thus strengthening the value of the mark and flattening the dollar. The dollar hit its all-time low against the mark last month and, after rebounding during Europe’s recent currency chaos, is poised to set more record lows.
Other European currencies, whose values are tied to that of the mark in an elaborate system of fixed exchange rates, are feeling the sting of Germany’s high interest rates even more sharply.
Germany too is paying dearly to maintain the system of fixed exchange rates in the face of its own high interest rates. Before the pound and the lira dropped out of the system, the Bundesbank spent about $30 billion worth of marks to buy those two currencies and support their value. That is the source of much of the excessive growth of Germany’s money supply.
Last week, the Bundesbank opened its wallet again and bought billions of francs to keep the French currency from going the way of the pound and the lira.
The franc promptly stabilized in value as speculators quit trying to drive it down in hopes of turning a quick profit, as they had on the pound and the lira. So effective was the Bundesbank’s action, said O’Neill of Swiss Bank Corp., that the Bundesbank does not now need to reduce German interest rates to maintain the franc’s value.
