The euro drive for reform

Wim Duisenberg ponders whether reforms will come before a euro recovery

By BBC business reporter Jonty Bloom

So the European Central Bank has increased its interest rates once again.

The rise to 3.75% was designed to fight inflation, and the ECB is obviously worried that strong credit growth and the weakening currency might push up inflation.

Bundesbank president Ernst Welteke said the rise had been necessary to avoid the need for a bigger rate rise later.

But the side effect that was also hoped for was that higher interest rates would increase the value of the euro on the foreign exchanges.

That hasn't worked and the talk at the moment is that the euro will weaken further.

Support levels

The reasons are very complicated but are mainly to do with levels at which foreign exchange dealers expect a currency to stop falling. If it breaches that level they sell the currency until it reaches the next 'support level'.

The Euro looks likely to do that yet again soon.

But the deeper reasons for the euro's weakness are more serious, and plans to extend the eurozone and the EU aren't helping.

The threat of EU expansion

If Denmark and Sweden join the euro it shouldn't be much of a problem, but Greece or any of the other Eastern European countries now queuing to join are hardly likely to add to the overall strength of the European economy.

Then there are structural problems, high unemployment, over-regulation of industry, high social costs and so on.

The feeling is that these are areas that Europe desperately needs to address if its economy is to become more competitive. And here we come to the chicken and egg problem: Which comes first?

Reform and recovery: Chicken or egg?

The EU's thinking is that the pressures of the Euro will eventually force these necessary changes on Europe's countries and companies, while those who trade in currencies don't want to hold the Euro until these changes take place.

Although there is a long way to go, some of those changes have started to happen.

Several well regarded papers including The Economist have recently covered their front pages with the news that reform is under way and Europe's economies are growing strongly - even if they aren't doing as well as America's.

The result is that the Euro is likely to continue to fall or at least stay weak.

Not least because no matter how well Europe does at the moment it always look weak compared to the sustained boom in America.

But things are very slowly changing and the markets are fickle. If the American economy, which is running full out were to stumble, that might begin to change.