The European Central Bank on Wednesday warned that eurozone inflation could remain higher than expected for the rest of the year, fuelling market expectations of a rate increase sooner rather than later.

Wim Duisenberg, ECB president, said the outlook for prices was surrounded by uncertainties, adding that inflation risks were "now more on the upside than on the downside".

In what economists described as "a remarkably hawkish" presentation, Mr Duisenberg stressed that it was vital to "remain vigilant" on inflation and stressed that price trends were "less satisfactory than expected a few months ago".

He insisted he was no longer as sure as before that average inflation would fall below the ECB's 2 per cent target ceiling this year, although the recent strengthening of the euro could help curb price pressures.

Eurozone inflation fell to 2.2 per cent in April from 2.5 per cent in March. But despite the decline, Mr Duisenberg said the recent sharp increase in oil prices, the impact of the euro cash changeover and the risks of high wage settlements had forced the ECB governing council "to reconsider the outlook for prices".

European government bond yields rose sharply as financial markets interpreted his comments as an indication that the bank might raise rates before its August summer break.

On Wednesday the ECB kept rates on hold, leaving its benchmark rate at 3.25 per cent, unchanged since November. But Mr Duisenberg did not repeat his usual mantra that the current monetary policy stance was "appropriate" for the medium term.

Economists said it was too early to conclude that the bank would raise rates at its next meeting. But "clearly the ECB was now in a position to raise rates earlier than originally thought if price pressures pick up", said one.

Mr Duisenberg indicated that the outcome of wage negotiations in Germany, where engineering workers will strike next week, was of particular concern.

The ECB's comments co-incided with the release of the eurozone purchasing managers' index (PMI) which showed the manufacturing sector growing in April for the first time in more than a year.

The Reuters-NTC index rose to 50.7 in April from 50.0 in March. Any value above 50 indicates industrial expansion, but economists said the overall picture did not point to a strong eurozone recovery this year.

The PMI survey, which covers 2,500 companies, also suggested that Germany had yet to return to growth. The German index edged up to 49.1 in April from 48.4 in March, indicating a still modest contraction in output.

The PMI prices index surged to 53.9 in April from 47.9 in March, indicating that prices rose at their fastest rate since February 2001.

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