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European Central Bank council member Axel Weber said there's no scope for interest-rate cuts and policy makers may need to raise borrowing costs once the economy emerges from its slump.

“Monetary policy at the moment is roughly where it should be and I think the discussion about declining rates in Europe is premature,'' Weber, 51, said in an interview in his office in Frankfurt yesterday. “If the economic outlook brightens somewhat again towards the end of the year and next year, which I still expect, we'll have to see if action is necessary.''

Europe's economy contracted in the second quarter and may not recover in the third, raising the risk of the region's first recession since the euro was introduced in 1999. Weber said the ECB, which increased its benchmark rate by a quarter point to 4.25 percent in July, remains focused on fighting inflation. Bond yields and the euro jumped.

“I don't expect inflation to come down necessarily just with weaker growth,'' Weber said. “Inflation is still the No. 1 worry for central bankers in the euro region.''

“Weber wants to keep the option open to raise rates next year,'' said Holger Schmieding, chief European economist at Bank of America Corp. in London. “He wants to choke any rate-cut debate.''

Rate-Cut Bets

This morning, Eonia forward contracts showed investors had fully priced in a cut in the ECB's benchmark rate to 4 percent by May. The yield on the May contract rose 9 basis points to 4.09 percent after Weber's remarks were published. The euro gained half a cent to $1.4773 and yields on two-year government bonds increased 4 basis points to 4.03 percent.

Weber said while current rates are “roughly adequate'' for “the imminent period of cyclical weakness,'' they are “still more on the accommodative side than being neutral.''

Inflation at 4 percent is running at twice the ECB's definition of price stability of just less than 2 percent.

Inflation will remain in breach of the ECB's price-stability goal next year and “we're not even sure that inflation on average will be below 2 percent in 2010,'' Weber said.

“If inflation risks further materialize and if we come to the conclusion that the inflation outlook has deteriorated, we'll have to re-examine our monetary-policy stance,'' he said. “At the moment, this isn't an issue.''

Recession Concern

Business confidence in Germany plunged to a three-year low this month, heightening concern that Europe's largest economy is slipping into a recession.

While oil prices have receded from a record $147.27 a barrel, they're still up 60 percent over the past year, crimping companies' spending power just as the euro's appreciation and the U.S. housing slump weigh on exports.

In June, ECB staff projected growth would slow to about 1.8 percent this year and 1.5 percent in 2009 from 2.7 percent in 2007. The bank will publish new growth and inflation forecasts on Sept. 4, when it announces its next rate decision.

Weber said he expects “a slight downward correction'' of the growth estimates for this year and next. “The European economy, in my opinion, will be robust once we're through this dry spell,'' he said.

Inflation forecasts may be revised “slightly higher'' from the current 3.4 percent and 2.4 percent for this year and next. The ECB is concerned that long-term inflation expectations are above 2 percent, Weber said.

The long-term inflation expectation, defined as through 2013, rose to 2.03 percent in August, according to the ECB's quarterly survey of forecasters published Aug. 14. That's the highest since the survey started in 1999 and up from 1.95 percent three months ago. Expectations measured by the breakeven rate on French five- year inflation-indexed bonds were at 2.19 percent today.

“We observe with concern that the majority of market watchers don't expect us to meet our stability norm at the 6 to 10-year horizon,'' he said. “For a central bank this puts in question its credibility and this can't be tolerated.''

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The European Central Bank will announce changes to the rules governing its money-market auctions in coming weeks to head off the risk of abuse by financial institutions, council member Yves Mersch said.

“At the margins there can still be cases where you see dangers of gaming the system,'' Mersch said in an interview on Aug. 23 in Jackson Hole, Wyoming. “The Governing Council has been discussing the whole issue'' and has agreed on a “certain amount'' of refinement to the existing rules, he said.

ECB officials have become increasingly concerned that banks are taking advantage of collateral rules that are broader than those used by the Federal Reserve and the Bank of England. The danger is that banks struggling to sell securities damaged by the credit-market turmoil will dump them on the ECB and become overly reliant on central-bank funds.

Dutch policy maker Nout Wellink said in an interview with the Het Financieele Dagblad newspaper published Aug. 21 that banks shouldn't become too dependent on the ECB for funding.

“It's not a broad-based revolution,'' said Mersch, who is attending a meeting of central bankers and financial officials organized by the Fed. “We are satisfied with our framework. But since there are always on the margins evolutions, we have to adjust our framework regularly to market practices.''

“The precisions'' planned by the ECB “concern some instruments,'' Mersch said, declining to elaborate. Unlike the Fed and the Bank of England, the ECB hasn't had to change its operation rules since the credit crisis began.

Lender of Last Resort

“The ECB is in an unenviable situation,'' said Paul McCulley, a fund manager at Pacific Investment Management Co, in an interview at Jackson Hole. “The lender of last resort should be just that, a last resort, and not a permanent provider of funds to the private sector.''

Central bankers including Federal Reserve Chairman Ben S. Bernanke met in the Teton Mountain retreat at the weekend to discuss ways to address the past year's credit rout. ECB President Jean-Claude Trichet said “we are still in a market correction'' and Bank of Israel Governor Stanley Fischer said the crisis has yet to run its course.

Spain's banks in particular are struggling to attract investors as a decade-long property boom ends and mortgage delinquencies soar to the highest in at least six years. Investors demand higher rewards to buy bonds backed by Spanish mortgages than any other home loans in Europe. The ECB lent Spanish banks a record 49.4 billion euros ($73.1 billion) in July.

Demand From Outside

The ECB's money-market system is also attracting demand from outside the euro region. The Frankfurt-based central bank said in June it will accept asset-backed bonds sold by Macquarie Group Ltd., Australia's biggest securities firm, and backed by Australian consumer loans as collateral.

U.K. mortgage lender Nationwide Building Society said Aug. 18 it's planning to expand into Ireland, a member of the euro region, to take advantage of “funding opportunities.''

Banks with operations in the countries sharing the euro can raise funding from the ECB by pledging certain types of collateral including asset-backed securities. Bonds backed by mortgages and other assets accounted for 18 percent of the ECB's loan collateral at the end of 2007, up from 4 percent in 2004, Fitch Ratings data show.

Taking Advantage?

“It has been suspected for some time that banks could be taking advantage of the broad collateral framework since they no longer publicly place asset-backed securities and these securities now only serve as collateral in central bank funding,'' Michael Schubert, an economist at Commerzbank AG in Frankfurt, wrote in a note to investors today. “This means that a necessary market correction in the ABS segment is being put off.''

The ECB lends to banks mostly through the main refinancing operations maturing in one week. Longer-term auctions provide financing to banks during three- and six-month periods.

Mersch said the central bank prefers to tackle any individual instances of abuse with “moral suasion.''

“Our framework is complex, and if we can warn people that this is not acceptable beforehand, and they adjust in due time, we would be satisfied,'' Mersch said. While the ECB hasn't yet taken “specific action,'' the central bank plans to strengthen its powers. He didn't say what that action might be.

Mersch said the ECB's response to any abuse case “would not necessarily be a question to be discussed publicly.''

The financial crisis is taking its toll on Europe's economy, which contracted in the second quarter.

Mersch said “the question is whether the slowdown will last a little bit longer'' and Bundesbank President Axel Weber, who was also in Jackson Hole, said Aug. 22 the current quarter may show “some weakness.'' The economy may expand below its potential rate of 2 percent “into next year,'' he said.

At the same time, “you shouldn't be getting too hung up about the volatility in quarter-to-quarter GDP readings,'' Weber said. Weber and Mersch both said inflation will exceed the ECB's 2 percent limit next year, with Weber saying there's a “substantial risk' that price pressures will persist. The ECB will publish revised projections next month.

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The cost to protect Asia-Pacific corporate and government bonds from default rose to the highest in five weeks, credit-default swaps show.

The Markit iTraxx Australia Index advanced 8 basis points to 156 at 9:40 a.m. in Sydney, Citigroup Inc. prices show. Contracts on Japan's benchmark measure of credit risk climbed 7 to 142, according to Morgan Stanley. The swaps, which rise as perceptions of credit quality deteriorate, are both at the highest since July 16, according to data compiled by Bloomberg.

The Markit iTraxx Asia index of 50 investment-grade borrowers outside Japan, including the Thai government and Hong Kong conglomerate Hutchison Whampoa Ltd., rose 6 basis points to 155, ICAP Plc prices show. The region's benchmark of 20 high-risk, high-yield borrowers outside Japan, climbed 19 to 561.5.

The indexes are benchmarks for protecting bonds against default and traders use them to speculate on changes in credit quality. A basis point, or 0.01 percentage point, is worth $1,000 on a swap that protects $10 million of debt from default.

Credit-default swaps on Macquarie Group Ltd., Australia's biggest securities firm, posted the biggest increases among the nation's financial companies, Citigroup data show. Contracts on the Macquarie's subordinated debt rose 25 basis points to 345 and protection costs on the senior debt climbed 15 to 235.

Subordinated bonds are less likely to be repaid in a bankruptcy than the senior notes, which rank higher in the payment order.

Credit-default swaps are used to protect against or speculate on default. They pay the buyer face value in exchange for the underlying securities if a borrower fails to adhere to its debt agreements.

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Following is the Bank of Japan's statement on monetary policy, released in Tokyo today following a two-day meeting of its policy board. The central bank left the overnight lending rate at 0.5 percent.

1. At the Monetary Policy Meeting held today, the Bank of Japan decided, by a unanimous vote, to set the following guideline for money market operations for the intermeeting period: The Bank of Japan will encourage the uncollateralized overnight call rate to remain at around 0.5 percent.

2. Economic growth has been sluggish against the backdrop of high energy and materials prices and weaker growth in exports. While growth will likely remain sluggish for the time being, it is expected to return gradually onto a moderate growth path as commodity prices level out and overseas economies move out of their deceleration phase. The CPI inflation rate (excluding fresh food) is currently around 2 percent, highest since the first half of 1990s, due to increased prices of petroleum products and food. It is expected to be somewhat higher over the coming months but to moderate gradually thereafter. Thus it is likely that the economy will return onto a sustainable growth path with price stability.

3. With regard to risk factors, global financial markets remain unstable and there are downside risks to the world economy, particularly the U.S. economy. In addition, weaker income generation reflecting developments in commodity prices could potentially weigh on domestic private demand. Although the economy is under no pressure to adjust production capacity and labor, these downside risks to the economy demand attention. On prices, global inflationary pressures remain high. In Japan, it is necessary to be mindful of upside risks due to changes in the inflation expectations of households and the price-setting behavior of firms in addition to developments in energy and materials prices. Meanwhile, if the downside risks to the economy turn out to decrease, there will be an increased risk that prolonging the period of accommodative financial conditions will lead to swings in economic activity and prices.

4. The Bank, while maintaining the smooth functioning of the money market, will carefully assess the future outlook for economic activity and prices, closely considering the likelihood of its projections as well as factors posing upside or downside risks, and will implement its policies in an accordingly flexible manner.

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TJX Cos. says second-quarter profit more than tripled from a year ago as the apparel discount retailer benefits from shoppers looking for cheaper alternatives. The retailer has also raised its earnings outlook.

The retailer said Tuesday that it earned $200.2 million, or 45 cents per share, compared with $59 million or 13 cents per share, in the year-ago period. Revenue increased 7% to $4.6 billion from $4.3 billion.

TJX Cos (TJX, Fortune 500).’s fiscal 2008 results includes an impairment charge of $10 million, after tax, or 2 cents per share related to its Bob Stores division. 

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Japan should cut the nation's corporate tax by a quarter to encourage investment and growth in the world's second-largest economy, said Shoichi Nakagawa, former policy chief for the ruling Liberal Democratic Party.

“Even if tax revenue falls in the near term, a tax cut may help revitalize business activity and eventually lead to a rebound in tax receipts,'' Nakagawa, 55, said in an interview in Tokyo on Aug. 7. He recommended lowering the level to about 30 percent from 40.7 percent, the highest among Organization for Economic Cooperation and Development nations.

Calls to ease the tax burden on companies have grown among policy makers who want to attract investment into what European Union Trade Commissioner Peter Mandelson in April called the developed world's “most closed market.'' The government isn't likely to act soon as it struggles to meet a goal of balancing the budget by 2011 to cut the world's largest public debt.

“It's necessary to cut corporate taxes from the point of view of international competitiveness, but it's difficult to do it now because the government has pledged fiscal reform,'' said Keisuke Naito, a senior economist at Mizuho Research Institute in Tokyo. “Policy makers acknowledge they have to do something to shore up the faltering economy.''

The main focus of the discussion within the ruling coalition is now focused on whether to raise the sales tax from 5 percent to help the government to pay for swelling welfare costs.

The government said last week the economy is “weakening'' for the first time since May 2001. Prime Minister Yasuo Fukuda yesterday described the economic situation as “severe.''

`Alarmed'

“I am alarmed that the global and Japanese economies have entered into a critical situation,'' Nakagawa said. “Japan should examine all possible options.''

Nakagawa, now a lower house legislator, was LDP policy chief from September 2006 until August last year. He estimates a 10 percentage point tax cut may boost foreign direct investment by 30 percent, or about 1.2 trillion yen ($11 billion).

Foreign direct investment represented about 3 percent of Japan's gross domestic product at the end of 2007, according to the Cabinet Office. That compared with 45 percent in the U.K., 14 percent in the U.S. and 8.8 percent in South Korea. Japan's government is aiming to boost foreign investment to 5 percent of GDP by 2010.

Japan's high corporate tax rate may hurt “the vitality of Japanese companies and their international competitiveness,'' Nakagawa said. “It also becomes an obstacle to foreign companies that want to invest here.''

Japan should also broaden its tax base and increase the sales tax, which at 5 percent is the lowest in the OECD, the Paris-based organization said in its April survey on Japan.

Only One Third Pay

Only about one third of Japanese companies pay taxes and a quarter of employees are exempt from personal income levies because of “generous'' exemptions and deductions, according to the OECD report.

Nakagawa said Japan needs to find a way to broaden the tax base not only on companies but also individuals and other bodies. Still, he said Japan should also consider allowing more deductions to ease the total burden on companies by as much as 3 trillion yen.

Japan's total tax revenue was 51.02 trillion yen last fiscal year, with corporate tax of 14.7 trillion yen, according to the Ministry of Finance.

New ministers in Fukuda's Cabinet, which he reshuffled this month, have also indicated support for a tax cut. Financial Services Minister Toshimitsu Motegi said he will consider lowering taxes to attract investment from abroad and Economy Minister Kaoru Yosano said that he wouldn't rule out reductions.

The U.K., Germany, China and South Korea cut company tax this year to spur economic growth and lure foreign investment.

“Everybody in the world is cutting corporate taxes,'' said Martin Schulz, a senior economist at Fujitsu Research Institute in Tokyo. Japan “will have to do it in the long run.''

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Indonesia's central bank may increase interest rates to as much as 9.5 percent and prevent the rupiah from depreciating too fast to slow inflation, Deputy Governor Hartadi Sarwono said.

A benchmark rate that's 2 percentage points above Bank Indonesia's 2009 inflation target is “adequate'' to keep price gains between 6.5 percent and 7.5 percent next year, Sarwono said in an interview in Jakarta today. “We are not stopping'' after raising the key rate to 9 percent this week, he added.

Higher borrowing costs may attract investors to Indonesian assets and help prevent a rapid depreciation in the rupiah as prices of the nation's commodity exports decline. A sudden weakening of the currency could prompt manufacturers to pass on the higher cost of imported raw materials, stoking inflation that reached a 22-month high of 11.9 percent in July.

“I would choose the word patient to describe them,'' said David Cohen, director of Asian Forecasting at Action Economics in Singapore. “If inflation remains above 11 percent through year-end, they will have to continue raising the policy rate to at least 9.5 percent.''

Bank Indonesia on Aug. 5 raised its benchmark rate for a fourth straight meeting, increasing borrowing costs by a quarter point from 8.75 percent. Inflation may accelerate further before the world's most populous Muslim nation celebrates Id-ul-Fitr, which marks the end of the holy fasting month of Ramadan.

Fasting Month

“The Muslim festival of Id-ul-Fitr in October will add to inflationary pressures, so Bank Indonesia needs to raise rates again,'' said Destry Damayanti, chief economist at PT Mandiri Sekuritas in Jakarta. “A policy rate at 9.5 percent is the correct assessment.''

The central bank will also ensure Indonesia's currency doesn't appreciate past 9,000 to the dollar on average this year, Sarwono said. The rupiah, the third-best performing among Asia's 10 most-traded currencies outside Japan in the past three months, has averaged 9,239 per dollar in 2008.

The rupiah fell 0.8 percent to 9,170 against the U.S. currency at 5:33 p.m. in Jakarta, the biggest drop in five months. Bank Indonesia will buy or sell the currency to keep the exchange rate stable, the central banker said.

“Intervention is still important,'' Sarwono said. “We see the demand from Pertamina is very high. It's not fair for the central bank to let the market fulfill that demand because a big part of oil and gas revenue is placed with the central bank.''

Buying Dollars

PT Pertamina, Indonesia's state oil company, needs to buy U.S. currency to import oil products as its refineries don't produce enough fuel to meet local demand. The company imported an estimated 12.1 million barrels of oil products in June.

Wholesale-price inflation accelerated to 34.7 percent in June, the fastest pace in nine years. About 70 percent of the raw materials used by manufacturers in Indonesia are imported.

Should manufacturers perceive the rupiah weakening to 9,400 against the dollar “it could trigger them to pass on the cost'' to consumers, Sarwono said. “A big part of production costs comes from imported inflation.''

Indonesia's economic growth probably slowed to 6 percent in the second quarter, from 6.3 percent in the previous three months, the central bank said in a quarterly publication dated Aug. 5 that was released today.

“Aggregate demand and loan growth may already be facing headwinds ahead,'' said Helmi Arman, an economist with PT Bank Danamon Indonesia in Jakarta. Bank Indonesia must be careful not to overdo rate increases, he said.

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Hovnanian Enterprises Inc., New Jersey's largest homebuilder, cut the number of unsold houses by more than 50 percent over the past two years after lowering prices and still had 1,500 on its books as of April.

“We pretty much start a home these days when we have a contract from a buyer wanting to purchase one,'' Chief Financial Officer Larry Sorsby said in an interview from his office in Red Bank, New Jersey. The company's sales price in the northeast for homes under contract dropped 7.4 percent in April from a year earlier. “We don't build them and hope they come,'' he said.

There are 3.9 million unsold existing single-family homes, the most since at least 1982, when the Chicago-based National Association of Realtors started compiling the data. The inventory of existing houses and condominiums must fall by almost 50 percent for prices to stabilize, said William Wheaton, an economics professor at the Massachusetts Institute of Technology in Cambridge. There is an 11.1 month supply of existing unsold homes at the current sales pace, up from 4.6 months in September 2005, according to the National Association of Realtors data.

It now takes 10 weeks to 12 weeks on average to sell a house, compared with four weeks or five weeks at the height of the five- year housing boom, said Walter Molony, a spokesman for the Realtors group.

`Fifth Inning'

Homebuilders are facing record foreclosures, waning consumer confidence and stricter mortgage standards. Almost one of every 10 U.S. mortgages was in trouble during the first quarter, the highest in records dating to 1979, according to the Washington- based Mortgage Bankers Association. Delinquencies, or home loans with payments 30 days or more overdue, rose to 6.35 percent of outstanding mortgages and the share of homes in foreclosure rose to 2.47 percent.

“It's going to take several years to get rid of all this inventory,'' Eli Broad, the philanthropist who co-founded Los Angeles-based KB Home, said in an Aug. 1 interview. Homebuilders have no choice but to sell at “discounted prices,'' he said.

Broad, who got his start by selling homes to World War II veterans, said the U.S. housing recession is in the “fifth inning, not the eighth inning or not the second inning.''

Builders are contending with the fallout of a housing boom fueled by a “grand social experiment'' where the barriers to buying a house were lowered and mortgage products for people with bad credit were widely available, said Mark Dotzour, chief economist of the Real Estate Center at Texas A&M University in College Station.

Loan Standards

Mortgage originations for purchase peaked during 2005 at $1.5 trillion, 67 percent higher than 2000, the Mortgage Bankers said.

Housing unraveled as consumers started missing mortgage payments and put their homes on the market or lost them to foreclosure, increasing the supply of properties for sale and spurring losses for financial firms. Homebuilders were then stuck with inventory they built on expectations demand would continue.

Now stricter lending standards are constraining consumers' ability to obtain mortgages and falling home prices are cutting purchases. Sixty percent of lenders said they made it more difficult for the most qualified prospective buyers to secure financing in the first quarter, a Federal Reserve survey shows.

The 18 percent drop in U.S. prices since July 2006 is creating a silver lining for some buyers and increasing sales in markets such as California.

Eager Buyers

Augustine Noronha, 38, and his wife Barbara started looking to buy about two years ago in the Cleveland area, eager to become first-time homeowners. New homes they looked at were too expensive.

Last month, they purchased a three-bedroom, 2,209-square-foot house from DB Homes, a closely held builder in Mayfield Heights, at almost 25 percent off the original list of $370,000.

“Previously it was out of my price range,'' said Noronha, who bought for $285,000. “This fell right into place.''

The 11-month supply of existing single-family homes on the market is the highest since 1985 and there's a 10-month supply for new homes, data from the Realtors and the U.S. Commerce Department show.

Six months' supply of homes at the current sales pace would reflect a balanced market for existing homes, according to the Realtors.

New homes “should be around four or five months at the most,'' Dotzour said.

Excess Supply

Reducing inventory will take longer because foreclosures alone may add 2.5 million homes to the market this year, according to mortgage-default data compiled by RealtyTrac Inc. in Irvine, California. New homes also are being built. The annual pace of housing starts was 1.066 million in June, data compiled by the Commerce Department show.

That total, down 53 percent from the peak in 2006, may decline as much as 34 percent more before bottoming, Dotzour said. Housing starts may fall to as low as 700,000 before reaching their nadir, Dotzour said.

“There's a lot of places in America that don't need any homes being built right now,'' Dotzour said. “If we have this final capitulation in the homebuilders next summer, that will be the beginning of the absorption process needed to soak up the excess supply, and that could be several years.''

Market Glut

The lowest that housing starts fell since the Commerce Department began collecting the data in 1959 was in January 1991, when total starts declined to an annual pace of 798,000. To reach that point again, starts would have to drop another 25 percent.

The lowest that new-home sales got was in September 1981 — an annual rate of 338,000. That's 36 percent less than the June pace of 530,000.

Home construction companies are still building as new orders come in, but more than 25 percent of those homes are coming back on the market when customers cancel. The average cancellation rate in the spring of 2008 was 29 percent, according to a report from New York-based Moody's Investors Service.

More U.S. consumers signed contracts to purchase existing homes in June. The index of pending home resales rose 5.3 percent after a revised 4.9 percent decline in May, the Realtors group said today. The gain is the third this year.

The glut of new and existing houses and the dearth of demand have forced U.S. homebuilders to file for bankruptcy protection, including WCI Communities Inc., the Florida builder whose chairman is Carl Icahn.

Prices Sink

The average price for a Centex Corp. home, the fourth-largest builder, fell 10 percent to $262,044 in the three months ended June 30. The average price for a Lennar Corp. house, the second- largest builder, fell 8 percent to $274,000 in the quarter ended May 31.

Hovnanian and competitors are selling or writing down land and clearing inventory. Over the past year, publicly traded homebuilders reduced unsold inventory by 39 percent to 23,400 from 38,200, Hovnanian's Sorsby said. The average price of a house in the northeast region in Hovnanian's backlog, or homes under contract and not yet sold, was $479,908 at the end of April.

Hovnanian, a home seller in 19 states, reduced its unsold houses by 46 percent at the end of April from a year earlier and the company has put expansion plans on hold, Sorsby said.

“We're not buying any new land,'' Sorsby said. “We're not starting any new communities.''

No `Imminent Bottom'

A Standard & Poor's measure of U.S. homebuilders fell 37 percent in the past year. Home construction shares sometimes rise six months to nine months before business conditions improve, said Ken Leon, an analyst at Standard & Poor's in New York.

“They will bottom well before the fundamentals bottom, whenever that is,'' said Eric Landry, an analyst at Morningstar Inc. in Chicago. “The evidence on the surface does not appear to be pointing to an imminent bottom.''

The housing bill signed by President Bush last week will help boost demand, Richard Dugas, the chief executive officer of Pulte Homes Inc., said in an interview. The legislation includes a $7,500 tax credit for first-time buyers.

“This is the first bit of good news we've had, in, candidly, two or three years for housing,'' Dugas said. Pulte, based in Bloomfield Hills, Michigan, is the third-largest U.S. homebuilder by revenue.

Dugas said housing legislation won't cure all the market's woes. Broad, the former homebuilding executive, agreed.

“It's of some help,'' Broad said. “Is it a major help? No.''

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Venezuelan President Hugo Chavez is set to tighten his government's grip on the economy by taking over his first bank, the local unit of Spain's Banco Santander SA.

Plans to nationalize the country's third-largest bank, announced yesterday, will give the state access to Banco de Venezuela SA Grupo Universal's 285 offices and $9.46 billion in deposits. It follows nationalizations in the oil, steel, cement, electricity and telecommunications industries.

Chavez is using a surge in oil revenue to increase his control of the economy and move the South American country closer to his goal of “21st-century socialism,'' even as government takeovers scare off investors. The economy expanded at its slowest pace in more than four years in the first quarter as private investment contracted.

“With this price of oil, the government has the capacity to buy, and it seems they're upsizing to control new sectors of everyday life,'' said Alejandro Grisanti, an economist at Barclays Capital Inc. in New York.

Chavez said he will pay fair compensation for Banco de Venezuela, which Santander bought from the government in 1996. He said he has been in touch with the bank's local president, and that he is interested in seeking a “friendly agreement.''

`Service of Venezuela'

“I want to get it back because it's the bank of Venezuela

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Venezuelan President Hugo Chavez is set to tighten his government's grip on the economy by taking over his first bank, the local unit of Spain's Banco Santander SA.

Plans to nationalize the country's third-largest bank, announced yesterday, will give the state access to Banco de Venezuela SA Grupo Universal's 285 offices and $9.46 billion in deposits. It follows nationalizations in the oil, steel, cement, electricity and telecommunications industries.

Chavez is using a surge in oil revenue to increase his control of the economy and move the South American country closer to his goal of “21st-century socialism,'' even as government takeovers scare off investors. The economy expanded at its slowest pace in more than four years in the first quarter as private investment contracted.

“With this price of oil, the government has the capacity to buy, and it seems they're upsizing to control new sectors of everyday life,'' said Alejandro Grisanti, an economist at Barclays Capital Inc. in New York.

Chavez said he will pay fair compensation for Banco de Venezuela, which Santander bought from the government in 1996. He said he has been in touch with the bank's local president, and that he is interested in seeking a “friendly agreement.''

“I want to get it back because it's the bank of Venezuela — that's its name,'' Chavez said yesterday in comments on state television. “We'll put it at the service of Venezuela, because the bank was very profitable.''

Politically, the takeover may be less popular than Chavez's other nationalizations, said Miguel Carpio an economist at Banco Federal CA in Caracas. Quickening inflation and rising crime have hurt the president's approval rating since he was re- elected in 2006. In December voters handed Chavez his first electoral defeat when they rejected his plan to rewrite the constitution.

“The government's taking over a company where people keep there money, so it's more delicate,'' Carpio said. “Certainly there's going to be doubts about the state's capacity to manage a big financial entity.''

Economists forecast the government will have to pay $1.2 billion to $1.9 billion to take control of the local Santander unit.

Negotiations

“I don't think the government is going to be irrational here,'' Carpio said.

Last year, Venezuela paid $1.32 billion to take over the country's biggest telephone company and $739 million to buy the main electricity company from Arlington, Virginia-based AES Corp.

Chavez is still in negotiations with Luxembourg-based Ternium SA over compensation for its stake in the country's biggest steelmaker, and has yet to announce agreements with cement companies Cemex SAB of Mexico, France's Lafarge SA, and Switzerland's Holcim Ltd.

Venezuela, the biggest oil exporter in the Western Hemisphere, is benefiting from a more than 60 percent increase in crude prices on international markets during the past 12 months. Venezuela is the fourth-biggest oil supplier to the U.S.

A spokesman for Banco Santander in Spain and a spokeswoman at the bank's Caracas office declined to comment when contacted by telephone.

Profit Contribution

Banco de Venezuela, founded in 1890, was nationalized in 1994 and then sold to Banco Santander two years later. The Spanish bank paid $351.5 million for a 93.4 percent stake at the time, according to its Web site.

The Venezuelan bank contributed 109 million euros ($170 million) to its parent company's income in the first half of 2008, 2 percent of the Santander, Spain-based bank's profit.

Chavez said he decided to nationalize the bank after blocking Santander's bid to sell the subsidiary to private investors in Venezuela.

Banco de Venezuela holds 11.8 percent of all outstanding loans in the South American country and 10.7 percent of deposits, according to Banco Santander's first-half earnings report. The Venezuelan unit has 3 million clients nationwide.

Banesco Banco Universal is the largest bank in Venezuela, with a 14.2 percent share of deposits. Banco Mercantil is the second largest, with an 11.5 percent market share.

Banking Industry

The takeover may be a blow to the banking sector at a time when Venezuela's economy is slowing, Carpio said. The government may move more of its cash into the public banking sector, resulting in a loss of deposits for private banks.

The financial services sector contracted 6.4 percent in the first quarter, after expanding 29 percent in the same period a year earlier, according to the central bank. Policy makers have raised interest rates twice this year in a bid to cool a consumption boom that's fueled the fastest inflation in Latin America.

“If they nationalize Banco de Venezuela, it will give the government a greater possibility of regulating the rest of the sector,'' said Cesar Aristimuno, an analyst at Caracas-based Aristimuno, Herrera y Asociados.

– With reporting by Charles Penty in Barcelona. Editor: Brendan Walsh, Andrew Barden

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