More on the ECB's recent decision ...

This is really an update to the post below about the recent decision at the ECB to keep rates on but also on the other hand clearly signalling another hike come June of perhaps even before. Yet, I thought that it deserved attention above the fold. As such, Wolfgang Munchau over at Eurointelligence is not far from me in his scepticism of the ECB's ability and indeed desire to keep on hiking. In his recent note Munchau also notes the currrency/FX perspective which I have also pointed to on several occasions. In short, just watch that Euro-dollar climbing but note also that there is a structural limit as to far this can continue notwithstanding the influence the hiking process itself will have on the real side of the economy. In terms of the interest rate decision itself Munchau and I pretty much agree. It is pretty clear that the ECB has voiced its intention to raise once more in June but whether this is prudent is of course an entirely different question. Moreover, I am also sticking to the view that the Eurozone will slow down considerably as we venture into 2007 which in itself through data on the real side of the economy will prompt the ECB to hold.  

In essence and in order to understand this, we should be thinking about the much debated buzz-word in the current economics debate of de-coupling and also most notably global imbalances. As such, the idea that the ECB can keep on going north (and the BOJ too) in a world where the US is slowing and the Fed is not decisively biased towards tightening (perhaps even the contrary?) implies the belief in a sustained process of de-coupling and essentially a re-balancing act epitomized by a currency correction involving the big floating (!) currencies.

This view represents a fallacy in my opinion and in essence we need to look at the structural nature of global imbalances in order to understand why de-coupling can only occur to a certain extent. So there is also small lesson here I think and as such we should not forget that de-coupling is intimately tied up with the conceptualization of global imbalances and re-balancing. In order to fully understand de-coupling then we need to discuss the imbalances too in order to grind down to the complete picture.

I will leave you in this update with the intro from Muchau's piece linked above which really is a well argued note I think ...

Trying to follow every nuance of Jean-Claude Trichet’s apparent degree of hawkishness is a waste of time in our view. It is clear – and has been for some time – that the ECB will probably raise rates in June. We are not sure this is an appropriate decision, but one would be ill advised to bet against it. The thing to watch out for is not Mr Trichet’s next speech, but the euro’s exchange rate. Our view is that the euro is highly likely to appreciate in effective nominal terms. And this is the core reason why we believe that the ECB is going to stop at 4%.