ECB rate rise hits mortgage strugglers

By Ben Sills  |   2008-7-5  |     NEWSPAPER EDITION

JOSE Mauricio Rodriguez Montalvo rents a room from his sister to help her afford her basement flat in Madrid as mortgage costs soar.

"She's crying over the Euribor," the 12-month money market rate used to set Spanish mortgages, Montalvo, 28, said in an interview. "We're just praying it won't keep going up."

For homeowners in Spain and in Ireland, struggling to stay afloat amid the wreckage of a decade-long real-estate boom, those prayers are going unanswered. The European Central Bank on Thursday increased its benchmark rate to 4.25 percent to fight inflation, pushing both economies a step closer to recession, Bloomberg News reported.

The two countries are particularly vulnerable to higher lending costs because their housing industries account for about 10 percent of their economies, twice the EU average. Montalvo's family has seen its monthly mortgage payment leap 50 percent to 2,080 euros since the ECB began raising rates in December 2005. "They have been thrown to the wolves," said Stuart Thomson, who helps manage US$46 billion in bonds at Resolution Investment Management Ltd in Glasgow, Scotland. "It's much easier to bring inflation lower if you're willing to have a recession in economies like Spain, Italy and Ireland."

The Irish economy contracted for the first time in more than a decade in the first quarter.

Balancing act

Growth in Spain was the slowest in 13 years in the period, and economists surveyed by Bloomberg News see a 45-percent probability of a recession, or two consecutive quarterly contractions, within the next year.

The ECB has more than doubled its key rate in less than two years under its mandate to control prices. Euro-region inflation accelerated to 4 percent last month, the fastest in 16 years, on soaring food and oil costs, even with growth slowing.

On Thursday Trichet signaled further rate increases weren't imminent as he strikes a balance between taming inflation and not choking economic growth. While he acknowledged some countries will be harder hit than others by the rate increase, he said the bank must serve the entire euro region.

Spain and Ireland make up less than 15 percent of the region's economy, and their economies together are about half the size of Germany's.