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Inflation alarm bells ringing in global financial markets

Reuters, London
Inflation alarm bells are ringing in financial markets as soaring energy and commodity prices and signs that companies are regaining pricing power spook investors already nervous about an economic downturn.
Price indices from major world economies this week will be examined closely as markets grow uneasy about heavy’ doses of monetary easing being introduced in tandem with mounting inflation pressures from soaring raw material and food prices.
Twin US stimuli, for example, of 2-1/4 percentage points of interest rate cuts since September and a planned $ 150 billion government package of tax breaks and spending sits uncomfortably in a world economy still so close to full capacity, some economists argue.
With investors on tenterhooks, speeches by Federal
Reserve chairman Ben Bernanke, European Central Bank President Jean-Claude TYichet and other policymakers from the United States, Switzerland and the euro zone will be closely watched this week for any signs that central banks might harden dieir antiinflation stance.
The inflation scare has forced traders to almost drop expectations for euro zone interest rate cuts in the first half of 2008. They are also scaling back howr far the Fed can slash rates. Demand for inflationproof government bonds is surging.
And the combination of economic and inflation concerns are preventing world stocks, measured by MSC1, from benefitting from the rate cuts and fiscal plans made so far.
"We’ve seen aggressive moves from the Fed in an effort to avert a recession which may be already in place. They are
trying to attenuate one problem, but that is opening the door for worrying inflation pressures later in the year," said Matthew Cairns, senior economist at Moody's research arm Economy.com.
"The Fed will have to reverse (the easing) at some point but the process will be a lot slower than the cutting process. In the euro zone they have been constantly beating the inflation drum. They haven't taken their foot off their accelerator."
In a sign that inflation expectations are going up, 10-year US breakeven rates - the difference between yields on inflation-protected securities and conventional bonds --have risen to 2.34 percent from a January low of 2.04 percent.
Gold, a traditional inflation hedge, has risen 30 percent to record peaks since September. Euro zone rate future price in around a 40 percent chance of a quarter-percentage point rate cut in June, having almost fully
priced in the odds of a halfpoint cut two weeks ago.
This week's data on US January producer prices and Personal Consumption Expenditure, the Fed's favourite gauge of inflation, as well as prices figures from the euro zone, Japan and Canada, could paint a bleak picture.
Also crucial for inflation are ongoing pay talks for around 2 million public sector workers in Germany. Wage negotiations for around 550,000 chemicals sector employees also start in some parts of the euro zone's biggest economy.
Last week, January US core consumer inflation posted its strongest monthly rise since June 2006 while French inflation hit its highest in at least 11 years and Swiss input price inflation hit an 18-year peak.
Output prices in the 15-nation euro zone are at their highest since March 2007 as corporates hike prices to pass on high raw material costs.