The euro-zone economy showed fresh signs of weakness in the face of the global credit squeeze yesterday as a surge in the euro to a new record against the dollar threatened to choke growth further in coming months.
An unexpectedly steep fall in the European Commission's economic sentiment index highlighted a turnaround in the 13-country region's economic fortunes since the middle of the year, which has been exacerbated by the recent financial market turmoil.
The latest developments suggested that the European Central Bank (ECB) would remain in a "wait-and-see" mode on future interest rate moves, with the chance of further rises having all but vanished.
The ECB holds its next interest rate-setting meeting in Vienna next week, when it is expected to leave its main rate unchanged at 4 per cent.
Financial markets have started to price in a cut in borrowing costs next year.
However, the Frankfurt-based institution will keep a hawkish tone after separate figures yesterday showed euro-zone inflation had leapt to 2.1 per cent this month - beyond the ECB's target of an annual rate "below but close" to 2 per cent.
Speaking in New York late on Thursday, ECB vice-president Lucas Papademos played down the likely effect of the financial crisis on the euro zone, saying that growth would be "only slightly" affected this year and next.
But he added: "Given the increase in uncertainty surrounding the economic outlook, it is prudent and appropriate to wait and gather additional information before drawing any firm conclusions for monetary policy."
A stronger euro and higher interest rates were putting a brake on growth even before the recent credit squeeze, which has driven financing costs up further, and the euro rose above $1.42 for the first time yesterday.
Robert Barrie, economist at Credit Suisse, said: "The combined tightening of monetary conditions has really been quite significant and we may be seeing the economy responding to that."
On some measures, the euro zone was faring worse than the US, where the global credit squeeze originated, Mr Barrie added.
The euro-zone economic sentiment index fell for the fourth consecutive month from 109.9 in August to 107.1 in September, the lowest since May 2006.
The European Commission pointed out that the indicator "remains well above its long-term average" but the speed of its turnaround might undermine policymakers' confidence in the region's underlying strength.
Bucking the negative trend, sentiment in the Republic rose for the second month in a row, despite a sharp decline in mood within the construction sector.
Other indicators, such as purchasing managers' indices and Germany's Ifo business confidence survey, have also deteriorated markedly in the past week.
Falling German retail sales figures for August, meanwhile, pointed to the continuing domestic weakness of Europe's largest economy. - (Financial Times service)
