The European Central Bank is widely expected to announce its second interest rate increase since April on Thursday but suddenly finds itself on a collision course with credit rating agencies.
The ECB has flagged a rise in its benchmark lending rate, probably to 1.50 percent, owing to dogged eurozone inflation currently running at 2.7 percent.
In London, the Bank of England will keep its key interest rate at a record low 0.50 percent and maintain the status quo into next year due to Britain's flagging recovery, economists said.
Markets are interested in how much higher the ECB's rate might go this year but since Moody's slashed its rating on Portugal and Standard & Poor's warned a plan to help Greece might lead to a declaration of default, analysts are focused on how the central bank will handle the latest twist in the eurozone debt crisis.
The ECB says it cannot accept Greek bonds as collateral in loan operations if Greece defaults but unless the central bank is willing to risk demolishing the Greek financial sector, the ECB might be forced into an embarrassing compromise.
“The ECB's position could be challenged in the coming months,” Goldman Sachs economist Natacha Valla noted.
Ernst & Young senior economist Marie Diron said “both the ECB and ratings agencies are moving to meet somewhere in the middle.”
For all those concerned, “what is really at stake is their credibility,” she told AFP.
If leading rating agencies say Greece has defaulted on its debt for only short periods, the ECB could activate emergency liquidity assistance (ELA) that has already been extended to banks in Ireland.
“Alternatively, it could fine-tune the set of GGB (Greek government bond) issuances that are eligible, or take an overall softer stance on eligibility,” Valla suggested.
But it would still mark the third time the ECB has made special allowance for Greece since it has already purchased public bonds on secondary markets and abandoned normal criteria for Greek bonds accepted as collateral against ECB loans.
Without such loans, the Greek banking sector would probably collapse.
Valla suggested the ECB “may well make technical adjustments to the definition of eligibility at some stage, so as to remain able to accept Greek paper without this being seen as a capitulation.”
Diron said that “deep down I think everyone would agree that Greece is defaulting, or restructuring its debt, however you call it.
“This restructuring or default needs to be managed in as orderly a way as possible” to avoid contagion to other debt-stricken eurozone countries like Ireland and Portugal.
European Union figures rounded on the ratings agencies Wednesday for warning about the financial prospects in Portugal and Greece.
The agencies' warnings and their timing plunged the eurozone deeper into turmoil as finance ministers struggled to stitch together a second bailout for Greece without triggering a default.
The euro fell to almost 1.43 dollars and the cost of borrowing for Portugal shot up, pulling up rates for Spain and Italy as well.
German Finance Minister Wolfgang Schaeuble said: “We must break the oligopoly of the ratings agencies,” adding that he wanted to “break” their power and “limit” their influence.
Diron suggested the agencies might accept to limit the duration of any default declarations so the ECB could resort to emergency lending measures.
“That gives us a way out of this imbroglio, I think,” she said. - Sapa-AFP