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'Strong euro' is only weak dollar, ECB board member says

Section: Daily Dispatches

By Matthew Brockett
Bloomberg News Service
Tuesday, March 18, 2008

FRANKFURT, Germany -- Two European Central Bank Executive Board members said the euro hasn't appreciated as much against other currencies as it has against the dollar, suggesting the bank is comfortable leaving interest rates at a six-year high even as the Federal Reserve prepares to cut borrowing costs again.

What some call a "strong euro" is really "a weak dollar," Juergen Stark said in a March 10 interview with Portugal's Jornal de Negocios, the text of which was released by the ECB today. "With regard to what it means for exports in the euro zone, what matters is the trade-weighted exchange rate and not its relation to one specific currency," Lorenzo Bini Smaghi said in an interview with Brazil's Valor newspaper published yesterday.

The ECB's refusal to follow the Fed in cutting interest rates has helped fuel the euro's 18 percent surge against the dollar in the past year. The euro has risen only 8.6 percent against a basket of currencies from its main trading partners and recent data show European exports holding up, giving the ECB more room to fight inflation.

"When we analyze the trade-weighted exchange rate, we confirm that" the euro's appreciation "has been significantly less" than its gain against the dollar, Bini Smaghi said. Stark said "the development of the effective exchange rate is much more important" when assessing the economic outlook.

The euro traded at $1.5826 at 11:30 a.m. in Frankfurt after reaching a record $1.5903 yesterday, with traders predicting Fed Chairman Ben S. Bernanke will lower the overnight lending rate by a full percentage point to 2 percent later today. The ECB's benchmark rate is 4 percent.

"The different responses of the Fed and the ECB reflect differences in terms of the business cycle," Bini Smaghi told Valor. "The euro zone doesn't find itself in the same situation as the United States and, therefore, to act in the same way as the Fed would be a mistake for the euro zone."

The U.S. economy, reeling from its worst housing slump in a quarter century, may have already slipped into a recession. By contrast, the ECB predicts the economy of the 15 euro nations will expand about 1.7 percent this year.

Stark said "exchange rates should always reflect economic fundamentals and high volatility is not helpful for economic growth." Still, the stronger euro "helps to mitigate the price pressures stemming from the strong increase in commodity prices."

Oil prices above $100 a barrel have helped drive euro-region inflation to 3.2 percent, the fastest pace in 14 years. The ECB has forecast inflation will remain above its 2 percent limit this year and next.

Stark said he's "not happy with this situation." While the ECB's interest rates will help to curb inflation, "given the current uncertainties, we will assess in the coming months on an ongoing basis whether the current policy stance still contributes to achieving price stability," he said.

International Monetary Fund Managing Director Dominique Strauss-Kahn has suggested the ECB helped fuel the euro's gains through its focus on inflation.

"The euro's problem is that the ECB, which is doing its job to contain inflation, is overwhelmingly powerful," Strauss-Kahn said in an interview with Le Monde published March 3. "It has no real political counterweight, such as a European finance minister who would be in charge of economic growth."

Stark said he was "surprised to hear such a remark from the top official of the IMF." The statement was "first unfounded and second not very helpful," he said.

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