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The BBC's Jonathan Charles in Frankfurt
"The bank appears to be running out of options"
 real 56k

Bloomberg's Chief Economist, Bronwyn Curtis
"The Euro will rise again"
 real 28k

Friday, 1 September, 2000, 22:03 GMT 23:03 UK
Euro's struggle continues
Wim Duisenberg
ECB president Wim Duisenberg is worried by inflation
Europe's single currency, the euro, failed to recover on Asia's financial markets the day after falling to a historic low against the US dollar.

In Tokyo, the euro briefly moved above the $0.89 level, but soon fell back again to about $0.8895.

As trading started in London, the currency slipped even further, before recovering to just under $0.89.

Later on Friday, it gained some ground, closing up about 0.5 pence against the pound and more than a cent higher against the dollar, at $0.8995.

On Thursday, the euro had plunged to a record low of $0.8837, despite the European Central Bank's decision to raise interest rates by 0.25% to 4.5%.

With US interest rates at 6.5%, holding dollar assets simply offers higher returns for investors, analysts say.

But some currency traders argue that rates are not the issue. Yoshihiko Kobayashi at Hypo Vereinsbank in Tokyo said: "It's clear that a tightening [of interest rates] is no longer an effective tool to help the euro."

Investors were focusing on "purely economic fundamentals" instead, especially the better growth prospects in the US, he said.

But Haruhiko Kuroda, Japan's vice finance minister for foreign affairs, said the euro's weakness "doesn't reflect fundamentals" and predicted the currency was likely to "recover considerably".

Jean-Claude Trichet, the govern of the French central bank, said financial markets were guilty of "a flagrant underestimation" of the value of the euro against the dollar.

Reform pressure

The euro's weakness in the wake of the rate rise reinforces the belief that only structural reform will boost the currency in the long term.

Structural reform across Europe would attract more funds into the eurozone, stemming the flow of funds into the US, analysts say.

"It is clear that Europeans are buying US assets and until that changes, and until Europeans and others want to buy European assets, the euro will probably remain vulnerable," ABN Amro economist Hans de Jong said.

The euro has dropped 25% since it was launched in January last year. When it was launched, it was worth about $1.17.

Many analysts expect the ECB to raise rates again by 0.25% as early as October if the euro continues to weaken.

Inflation fears

The weakness of the single European currency and the continued strength in the price of oil have increased the risks of inflation in the eurozone. It was this threat of inflation that prompted the ECB to raise interest rates.

In a statement, the ECB said that "it is imperative that medium-term upward pressure on prices be contained."

It added that its actions would "support the favourable prospects for high economic growth in the euro area."

However, there are worries that the rate rise could choke off the recovery of the German economy, which is Europe's largest.

"The decision was no big surprise. What they have tried to do is achieve a balance between addressing creeping inflation and not jeopardising economic recovery," said Jeremy Hawkins of Bank of America.

Rising prices

The ECB is charged with maintaining price stability in the eurozone, which it has defined as keeping annual price rises below 2%.

In July, consumer price inflation was 2.4%, unchanged from June.

Further evidence of inflationary pressures came during the past week with news that German producer prices rose at their fastest rate for nine years.

The sharp rise in producer prices in Europe's largest economy was attributed mainly to the increase in energy costs. Oil product prices were up 29.3% compared to one year ago.

The ECB's dilemma is that a rate rise could dampen economic growth across Europe. A key German economic indicator highlighted the fact that business confidence is still fragile.

However, the German government remains confident that its economy will grow by more than 3% next year, reducing the high rate of unemployment.

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See also:

09 Aug 00 | Business
Euro teeters on new low
24 Aug 00 | Business
German inflation suggests rate rise
25 Aug 00 | Business
The ECB's rate dilemma
30 Aug 00 | Business
Pound hits 7-year low
01 Sep 00 | Business
Tax cuts will boost euro
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