Europe

Amid much skepticism, the euro staged a nice rally ahead of the decision by the European Central Bank to raise interest rates by half a point.

The Euro Staged a Moderate Rally, rising nearly 7% above its record low set May 4, but analysts wonder if the common currency can continue its ascent.

Euro Rallies Briefly Against Dollar

Interest Rates (expectations) Push Euro Up

As we have often argued, the notion that higher interest rates can boost a currency, makes no sense. In a world where currencies can fluctuate against each other by 30% in a year, what is the significance to investors of a fifty-basis-point boost in annual return on any country’s short-term paper?

ECB Raises Rates by a Half Point To Head Off Inflationary Pressure

Not surprisingly, the euro weakened again after the rate hike, as this action could possibly endanger the strong economic recovery now under way in Europe. Whether the hike had become necessary is debatable:

“If American inflation was running about 2 percent a year and the unemployment rate was 9.6 percent, Alan Greenspan would not raise rates by half a percentage point. Given the same situation, the European Central Bank would and did.”

In fact, the only argument for using interest rates in defense of a currency is that this makes speculation by highly leveraged hedge funds more expensive. However, with the current debacle among this class of speculators, the rate rise may not have been necessary.

Exit of Macro Hedge Funds From Market May Hurt Euro

As if hedge funds had helped boost the euro, up until now... Now, of course – a few days later – the media worries about the impact of the rate rise on growth:

Despite U.S.'s Economic Slowdown, Analysts See Limits to Euro’s Rise

Euro Struggles Amid Growth Fears

Of course, as evidenced by rising complaints from US manufacturers, the dollar has become overvalued. Countries that have linked their currencies to the US dollar can also attest to that fact.

Lithuanian Exporters Regret Plan To Link Currency to the Dollar

In the end, however, it is relative growth rates and relative inflation rates that are the main long-term influences on currencies. The United States is clearly slowing down. The big question now, is whether the European recovery has enough momentum of its own to keep expanding without the help of booming exports to the dollar zone. We think it has:

Eurozone Q1 GDP up 3.2% on Investment, Exports

Euro-zone Jobless Rate Falls to 9.2%

German Economy Shows Fortitude
German economic data showed Europe's largest economy is in full recovery mode, with industrial output exceeding expectations and unemployment waning.

German Unemployment Lower

German Data Point to Growth

Germany: A Growth Spurt May Be Ahead

When assessing a region’s economic trends, we find it useful to look at its smaller economies. They usually are highly sensitive to domestic conditions within the region’s leading economic “locomotives,” as they often direct most of their exports to these large neighbors. In that respect, trends among (relatively) smaller European countries are quite encouraging, and comfort our confidence in the region’s own internal economic momentum.

Finnish Consumer Confidence Rises

Finland Raises GDP Growth Forecast

Estonian GDP Grows 5.2%

Hungarian Public Deficit Helped by Tax Revenues

Dutch Manufacturing Output up 5.1%

Belgian GDP Grows 5.1%

Swiss Economy Expands
The Swiss economy continued to grow strongly in the first quarter of 2000.

Swiss Unemployment Falls to 1.9%

Norway Non-Oil GDP Rises 0.5% (over the previous quarter)

Turkish Industrial Production Rises

Danish Industrial Production Volume Rises 10.1%

Of course, there are always the party poops…

German Opposition May Cut Back Plans to Remove Capital Gains Tax

Germany: Strike by Government Bureaucrats on Tuesday; for the first time since 1992, the whole public sector could start a strike.

…but, as the United States has experienced over the past decade, in an expanding economy, vicious circles tend to transform themselves into virtuous circles:

Fabius Sets French Deficit Target
Laurent Fabius, the French finance minister, said the French budget deficit for 2000 would be about FFr200bn ($29.26bn), down from a forecast of FFr215bn. Mr. Fabius said strong economic growth and a small part of the FFr130bn windfall from the auction of next-generation mobile phone licenses helped bring down the deficit.

Combined with our relatively sanguine view of Japan’s economy (see: Japan), strong European trends reinforce our view of a world economy where global demand remains relatively firm despite a US slowdown. This should help sustain the euro’s recovery, and it makes the shares of natural resource companies, many of which have recently pulled back significantly, quite attractive.

François Sicart

June 2000
^© Tocqueville Asset Management L.P.

The information contained herein has been obtained from sources believed reliable, but is not necessarily complete and cannot be guaranteed. Tocqueville Asset Management L.P. and Tocqueville Finance S.A., their affiliates and their officers, directors, employees, advisors or members of their families as well as the clients for whom they manage portfolios; 1) May have positions in securities or options of issuers mentioned herein and may make purchases or sales of the securities or options while this publication is in circulation; 2) May hold directorships in corporations discussed in this publication. Affiliates of Tocqueville Asset Management L.P. and Tocqueville Finance S.A. may, in the last three years, have been manager or co-manager in a public offering of securities of issuers discussed in this publication.