WASHINGTON, Sept 28: The European Central Bank on Friday slammed the euro zone’s largest economies for failing their budget pledges, and defended its current policy stance.

The ECB has decided to maintain the key ECB interest rates unchanged, and considers that the current level of key ECB interest rates is appropriate to maintain price stability over the medium term, said ECB President Wim Duisenberg.

ECB rates have been held at 3.25 per cent since November despite mounting pressure for a cut as growth falters.

The balance between fiscal and monetary policy has been a big headache for the bank because euro zone heavyweights Germany, France and Italy, as well as Portugal, have all failed to cut their budget deficits as promised.

This forced the European Commission this week to agree to tolerate a delay in balancing the books by two years, until 2006, and provoked a sharp rebuke from Duisenberg.

So far the European Central Bank has remained silent about these recent developments. I will now break that silence ... The results of fiscal policy in several countries are very disappointing, the blunt-spoken Dutchman said.

Duisenberg immediately ruffled feathers, with French Finance Minister Francis Mer tersely saying I don’t agree with that assessment.

Looser fiscal policy may fuel inflation and force the ECB to raise interest rates to redress the policy balance.

Duisenberg declared full support for the European Commission’s Tuesday decision to tolerate a delay in balancing their budgets until 2006.

The commission is the guardian of the (Maastricht) Treaty. We fully support the commission in its efforts to get full implementation of the fiscal framework, he said.

The commission has the job of policing the EU’s Stability and Growth Pact, which bans budget deficits above three percent of GDP and calls for a balanced budget over the medium term.

To restore credibility, and because it would only have made matters worse to insist on spending cuts to stick to the 2004 deadline, the commission was lenient. But it demanded more progress in trimming underlying deficits in return.

It also warned it would defend the three percent deficit limit, which has the sanction of hefty fines, with the full weight of EU law. Duisenberg was in agreement.

The 3 per cent deficit limit must be respected. Any violation must trigger the deficit procedure ... it is important that credibility is maintained. This will guarantee low interest rates in the euro area, he said.

Budgets have been hit by slower growth and Duisenberg said collapsing world stock markets and higher oil prices had dimmed the outlook for economic recovery in the euro zone.

He said this meant the bloc would only next year get back to trend potential growth, which the ECB estimates at 2.0-2.5 per cent, adding downside risks should be “monitored closely.”

But inflation was hovering around 2 per cent, the upper limit of the bank’s tolerance threshold, and would only fall “just below” this level next year.

The risks to price stability appear to be rather balanced, Duisenberg said, appearing to support those who believe the ECB is currently in “wait and cut” mode with a move likely around the turn of the year if the growth outlook deteriorates further.

Duisenberg said US Treasury Secretary Paul O’Neill had urged Europe and Japan to play their role in getting the world economy out of the doldrums.

But he stressed there had been no pressure on the bank to lower interest rates during the meeting of finance ministers and central bank governors from the United States, France, Italy, Germany, Canada, Japan and Britain.

O’Neill fully agreed with me that the crucial thing to be achieved ... is the restoration of confidence. He also fully agrees with me that there are limits to what monetary policy can achieve in that respect, he said.—Reuters