Weak banks should be allowed to fail

August 27, 2008

, FRANKFURT, August 27 – Weaker eurozone economic activity should be temporary, but weak banks should be allowed to fail, the European Central Bank\’s (ECB) top economist said on Wednesday in a press interview.

"For me, a phase of weakening and a progressive convalescence is the most likely scenario," Juergen Stark told the Sueddeutsche Zeitung as German economic indicators showed Europe\’s biggest economy was headed for rough times.

"After the German economy began the year with a bang, that was to be expected. I nonetheless foresee more than a simple correction," Stark said.

"Domestic demand in particular is developing less strongly than anticipated. But this weakness will be temporary."

In response to a question on whether or not the ECB should try to save banks in peril, Stark said: "Weak banks should be allowed to disappear from the market.

"Bad management must be sanctioned. A rescue is justified only when there is a threat to the entire financial system."

The ECB economist reiterated central bank warnings about medium-term inflation and excessive pay raises, and said consumer prices were likely to rise further.

German inflation hit 3.3 percent in July, the highest level in 15 years, and figures for August are due in the coming days.

Analysts now expect the 15-nation eurozone economy to contract after Germany posted a 0.5 percent decrease in its second quarter gross domestic product, its first drop in four years.

Other eurozone countries will release their own data on Thursday, with estimates for the entire economic zone due shortly thereafter.

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