Were the MPC and the ECB right to hold rates?

With both the ECB and the MPC holding rates at 4% and 5.25% respectively, there has been a lot of discussion as to whether the decisions made were correct. The US opted for an aggressive interest rate strategy by cutting rates twice in the space of nine days, in an attempt to stimulate economic activity. Their Eurozone counterparts have decided to use a more passive approach to tackling the latest credit crisis.

The US has certainly been hit most by the credit crisis, but was far too aggressive in reducing interest rates. It now finds itself in the position where it is almost certain to enter a recession. Along with the current inflation problems, especially with oil, food and energy prices surging, it could find itself in the unpleasant situation of stagflation.

The MPC on the other hand are keeping inflation in their reach at 2.2%, with the UK economy in limbo on whether it will enter a recession. The MPC has taken the more medium term approach rather than the short term view of dropping rates to rouse the economy. This has to be the best decision when so much uncertainty at stake.

The ECB however is digging a deeper hole and is quickly losing sight of the escape rope. Not only is inflation 1.2% above the target level at 3.2%, but with its widening gap to the US rates, the euro has become exceptionally strong against the dollar. Medium term effects of this coupled with a US recession, could damage Eurozone exports to the US eventually slowing the Eurozone economy. The ECB should have had inflation under control a long time ago so that it could cut rates now to stimulate growth and assist in encouraging exports.