EMU Politicians Act To Weaken Euro

When I first predicted in July that the euro would rise above the 1.40 level against the U.S. dollar, I also cautioned that it would have a difficult time rising much further after that as Euro area exporters and politicians would try to act against further euro appreciation and as the ECB would then find it difficult to raise interest rates further.

Well, the ECB has already seemingly indefinetly postponed any further rate hikes and now we see massive complaints from euro area exporters and politicians. And this it's not just Sarkozy, but also Italian prime minister Romano Prodi and German chancellor Angela Merkel.

Prodi said that "There is concern that US policy is very attentive exclusively towards domestic interests". Actually, it's not really focused on broader U.S. national interests, but rather on the interest of Jim Cramer's Wall Street buddies who demanded to get bailed out from their failed investments by Bernanke's money helicopters. But he is right that Bernanke certainly don't care about Europe.

While it is understandable that exporters are unhappy about this, the euro area hardly faces a real crisis with regards to its external balance. In fact, the euro area has a growing current account surplus.

A far bigger problem is the rising domestic inflationary pressures. And while rhetoric like this can temporarily push down the euro's exchange rate somewhat, ultimately the only thing that can stop it is if the ECB follows the Fed and starts to inflate even more. You cannot at the same time control both domestic inflation and the exchange rate, you have to choose. So will Trichet choose to safeguard the broader European interest of containing inflation or the narrow interest of a few exporters? Unfortunately, it seems that Trichet will follow Bernanke in choosing to increase inflation.