The European Central Bank has slashed its forecast for economic growth in the euro zone this year from 1.8% to 1.4%.
The revised forecasts were released after the bank left its main interest rate unchanged at 4.25%, as expected, following its monthly meeting in Frankfurt.
The ECB also cut its 2009 growth estimate to 1.2% from 1.5%, but raised its 2008 inflation forecast to 3.5% from 3.4%. The 2009 inflation forecast went up from 2.4% to 2.6%.
Speaking to reporters, ECB president Jean-Claude Trichet repeated concerns about inflation. 'The information that has become available since the last meeting has confirmed that annual inflation rates are likely to remain well above levels consistent with price stability for a protracted period of time,' he said.
Mr Trichet said the bank's 'primary objective' was to maintain price stability, adding that it remained 'imperative to avoid broad-based second-round effects in price and wage-setting'. The ECB has repeatedly expressed concerns about so-called second-round effects, when higher inflation rates lead to higher wage demands, setting off an inflationary spiral.
Earlier this week, it was confirmed that the euro zone economy contracted in the second quarter of 2008 by 0.2%, its first quarterly decrease since the zone was formed in 1999.
Council makes pay talks plea
The Governing Council of the European Central Bank, meeting in Frankfurt, has strongly urged social partners to abolish any link between the rate of inflation and pay increases.
Mr Trichet said all parties in both the public and the private sector must now live up to their responsibilities in this regard to contain inflation and preserve jobs.
The Government here is expected to make a strong case for public sector pay restraint when it meets the social partners in an attempt to resume the national pay talks tomorrow.
ECB tightens lending criteria
The ECB has also announced tighter criteria for certain loans to commercial banks amid fears that some have used ECB refinancing operations to 'park' risky assets.
'The ECB has incorporated some technical refinements in its risk control framework for Eurosystem credit operations,' an ECB statement said.
The ECB accepts a wide range of collateral from commercial banks when it lends cash they need to continue extending credit to businesses.
The quality of collateral ranges from state-backed treasury bills to corporate and bank bonds, long-term credits and asset-backed securities (ABS), which are often based in part on home loans.
Highest risk collateral such as ABS will be subjected to a general markdown of 12%, and assets for which banks can provide only a theoretical value are to be discounted by an additional 5.0%.
That will make it more expensive for banks to offer securities that have no market value, those they cannot sell to another bank.
