ECB likely to signal next rate hike

The European Central Bank is set to signal a rate hike this week as market tensions ease after the ECB, EU and IMF appeared to have snatched Greece again from the jaws of a debt default.

A European Union, International Monetary Fund and ECB 'troika' agreed after four weeks of tough talks to provide Athens with the next 12-billion-euro (17.4-billion-dollar) tranche of aid under a 2010 bailout so Greece can pay its bills in July.

At the same time, Jean-Claude Juncker, head of the eurozone finance ministers group, said member states could provide even more aid for Greece and crucially that private sector banks were set to help on a voluntary basis.

A Eurogroup pledge would be subject to strict conditions, Juncker stressed, including involvement that "will have to be negotiated with private creditors."

But "Europe seems to be on track to contain the debt crisis," Berenberg Bank chief economist Holger Schmieding said.

The EU must ensure Greece can settle some of its 350 billion euros in debt between now and mid 2013 given that it still cannot access private equity markets.

The ECB must ensure meanwhile that dogged inflation which eased to 2.7 percent in May does not become entrenched, and find a way to get it to the central bank target of just below 2.0 percent.

"We doubt that May's slightly weaker than expected inflation figure will be enough to stop the ECB from hiking rates in July," Capital Economics analysts wrote.

Economists are waiting for ECB president Jean-Claude Trichet to say Thursday that the bank's position on inflation is now one of "vigilance," a code word tipping markets to an interest rate hike the following month.

Some forecast the current benchmark rate of 1.25 percent could reach 2.0 percent by the end of the year, though the central bank might tread slowly to avoid undermining weakened countries like Greece, Ireland and Portugal.

In London, the Bank of England is expected to keep its key lending rate at 0.50 percent on Thursday, amid mounting evidence of a struggling global economy and stagnating growth in Britain.

Back in the eurozone, remarks by ECB chief economist Juergen Stark last week raised hopes that a rollover of Greek debt by private investors could be a way out of the latest chapter in the crisis.

"If this is not seen as a default or a partial default on sovereign debt, then it could indeed be a way of involving the private sector in financing Greece," Stark told Italian business daily Il Sole 24 Ore.

Germany has pushed for private investors to participate in Greek rescue plans to ease public resistance to more taxpayer bail-outs, while the ECB has warned that could have disastrous effects on the Greek financial sector.

Much of Greece's debt is held by domestic banks that could go under if they suffered heavy losses.

A rollover of Greece's debt would involve persuading banks to buy new bonds from the Greek government to replace maturing securities, thereby ensuring continued financing.

Greece benefits from a rescue package worth 110 billion euros from the EU and IMF but probably needs another 60-70 billion euros to plug holes in its finances over the next couple of years.

Trichet has now floated the idea of an EU-wide finance ministry that could intervene if countries that received aid failed to meet their commitments, but reaction among political leaders has been cool.

Growth in eurozone economic activity slowed in May meanwhile to its weakest rate in five months even as inflation eased, which could reduce pressure on the ECB to sharply tighten monetary policy.

A composite purchasing manager's index compiled by the research group Markit fell to 55.8 points but remained above the neutral level of 50, pointing to continued economic expansion.

The ECB is also set to release fresh staff forecasts for eurozone growth and inflation, which economists expect to be raised from the current 2011 estimates of 1.7 percent and 2.3 percent respectively.

Finally, the central bank could maintain its current policy of unlimited loans to commercial banks for one week and one month, but might announce changes to its three-month operations.

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