KEY POINTS:
DAVOS, Switzerland - Relying on economic data to decide the future path of interest rates is the correct approach for the Federal Reserve and the European Central Bank, a top International Monetary Fund official said on Friday.
John Lipsky, first deputy managing director of the IMF, also said that the agency supports caution at the Bank of Japan.
In an interview at the World Economic Forum, Lipsky said the IMF would not second guess whether the Bank of Japan's decision this month to forego an interest rate increase was the right one.
But he noted: "We have already stated that it was appropriate for BoJ to proceed cautiously with monetary adjustment given the lack of clear-cut inflation in the economy and somewhat slower-than-expected third-quarter growth.
"This recent action seems consistent with our expectation."
The BoJ left interest rates unchanged at its meeting last week as the central bank judged it prudent to wait for further data. Only a week before that decision, financial markets had been expecting the BoJ would deliver its second rate increase since it ended its zero-interest rate policy last year.
In Europe, markets expect the European Central Bank to next raise interest rates, for a sixth time, in March, and increasingly strong economic data has government debt futures traders pricing for the ECB rate, now at 3.5 per cent, to reach 4 per cent by mid year.
Lipsky said that the ECB's stance of leaning towards further rate increases but with the timing dependent on how economic data unfolds, is a suitable monetary policy path.
"We have suggested that the ECB policy seems consistent with our understanding of the circumstances, namely that it is perfectly possible that additional action may be justified in future, and we agree that future policy decisions will be taken to ensure price stability.
"The ECB says it is data driven. We would say that is appropriate, particularly reflecting the uncertainties over the strength in their growth at this juncture," he said. "At the same time, I should make clear that we are confident and comfortable about prospects for a solid expansion in the coming year."
The euro zone enjoyed economic growth around 2.7 per cent in 2006. Growth is expected to slow somewhat this year as government budget cuts and higher taxes affect the domestic picture. But most forecasts still put 2007 growth around its potential rate of 2 per cent or a little above.
In the United States, the Federal Reserve has held rates steady at 5.25 per cent since June 2006. A housing slowdown has slowed the overall economy, creating uncertainty over the future outlook. Financial markets have priced in some chance of a Fed rate cut later this year.
"The Fed has said that future moves would depend upon the data and that seems appropriate, given the nature of complex developments," Lipsky said.
Globally, Lipsky said that central bankers are paying close attention to how their policy decisions interact and how they affect financial markets, even as they focus on keeping inflation low in their own economies.
"Key authorities are paying close attention to the potential spillover effects in international markets to try and ensure that their policies are mutually consistent, as best as they can tell," Lipsky said.
Central bankers have worried that a long period of low rates in the world's biggest three economies has created excess liquidity, their phrase to describe lots of cheap money sloshing around in markets that has helped finance a return to robust economic growth.
They worry cheap money will fuel inflationary pressures and cause unwise investments in asset markets. Very low bond yields worldwide, despite the round of rate tightening that began with the Fed in June 2004, could be one symptom.
Another worry has been the build-up of a massive US trade deficit, financed primarily by high Asian savings, and huge foreign exchange reserve stockpiles particularly in China.
Together these factors could unwind suddenly and cause a crash. At the World Economic Forum meetings, however, discussion focused more on regulating financial derivatives.
Lipsky said central bank concerns about these so-called global imbalances have not faded, rather focus has shifted from macro-economic policy towards examining whether the financial regulatory instruments and oversight in place is adequate to deal with potential problems.
- REUTERS
