EUROPE: European Rates May Boost Euro

Global Finance, Jan 2004

The euro-area recovery is at last showing signs of genuine strength, as Germany, the zone's biggest economy, posts some impressive numbers.

German output rose 2.4% in October, almost twice as much as expected. The gain in the country's manufacturing output was the biggest monthly rise in 10 years. Factory orders rose three times as much as expected in October, portending further gains in output down the road.

"The dispute over the Stability and Growth Pact is best viewed as a sideshow for the euro," says Philip Suttle, currency analyst at JPMorgan Chase in New York.

Improved regional growth conditions in 2004 should make it possible for both France and Germany to meet their budget targets in 2005 without additional fiscal tightening, Suttle says.

Higher euro-area growth and a slower-thanprojected decline in inflation have led JPMorgan Chase's economists to bring forward their expectations of a tightening by the European Central Bank from 2005 to the second half of 2004.

A more-aggressive ECB will help the euro toward the end of 2004, Suttle says.

The Stability Pact, referred to by some as the Stupidity Pact, was foisted on the euro zone by Germany to ensure that fiscal discipline would be enforced after entry into European monetary union.

"Today, the Stability Pact is all but dead, killed not by those who Germany had initially worried about, but rather by a bloc led by Germany itself," says Marc Chandler of HSBC.

Spain, the Netherlands, Austria and Finland resisted, but together did not have the necessary votes. So the EU finance ministers decided to halt the excessive deficit procedures against Germany and France, and watered down the EU budget recommendations.

Standard & Poor's, the New York-based rating agency, commented that, to all intents and purposes, the rules-based fiscal framework in Europe has virtually disappeared.

"It is hard to imagine how any future violations could possibly lead to a full application of the rules," S£P said. "Doing so would demonstrate such double standards that corrosive effects for the wider European agenda would be likely."