I think that’s wrong. It’s an erroneous viewpoint that’s symptomatic of the short memories of the chattering media. It’s also one that could cause investors to miss out on one of the best profit plays in the global marketplace today.

I’m talking about Germany – the real powerhouse of Europe.

The “New” Germany

From the 1950s to the 1980s, West Germany consistently delivered high growth rates and low inflation. West German engineering proved superior to any other on the planet. And West German living standards rose far above anywhere else in Europe.

Then came 1990.

East and West Germany were reunited and an economic malaise set in. Instead of unifying the two currencies at a ratio of two Ostmarks to one Deutsche Mark, which would have kept East German labor cheap and competitive, the politicians unified the currencies at a rate of one to one.

That meant that East German labor was instantly priced out of the world market. And with good reason: It now offered Soviet-sector efficiency and skill – but at West German costs levels. Consequently, East Germany went through more than a decade of very high unemployment. German taxpayers went through more than a decade of huge subsidies to the former East Germany to prop up that region’s living standards and retrain its labor.

However, since the excellent German high school education system was quickly established throughout the country, the burden of reunification was a problem that did not last forever. What ultimately happened was that younger, fully trained workers in East Germany replaced their inferior Communist-era parents.

From about 2005 onward, the financial cloud of reunification costs began to lift. During the last few years, Germany’s economic performance has been notably better than its European competitors. Against Italy alone, for example, Germany’s competitiveness has improved by more than 20% since Europe’s currencies were unified in 1999.

The German economy has been held down by a tax burden that’s high by global standards. Its tax system suffers from excessive complexity and from draconian enforcement. Small businesses, for example must pay a 14% trade tax – on top of the standard corporate income tax that all businesses must pay. The trade tax goes to the “lander” (the states), rather than to the federal government.

Despite such problems, Germany has played it smart in several key areas. Unlike the United States and many other countries, Germany did not engage in fiscal stimulus. Indeed, the Social Democrat Finance Minister Peer Steinbruck last winter referred to Britain’s huge fiscal stimulus plans as “crass Keynesianism.” That showed that Germany has a true consensus against the stimulus foolishness. Germany’s budget deficit is expected by The Economist panel of forecasters to be only 4.6% of gross domestic product (GDP) in 2009, far below its rich-country competitors. Thus, even though Germany’s taxes are high, they will not be forced further upwards by zooming budget deficits.

The Angela Merkel Era Begins

Merkel’s election as German Chancellor is important, because it enables her to govern in coalition with the most free-market party, the Free Democrats, who are committed to lowering taxes and freeing up some of Germany’s restrictive labor laws.

This should not be taken too far. The Free Democrat leader Guido Westerwelle, flushed with victory, pledged Sunday night that the new government would act “responsibly” – not exactly “Hope and Change” as a slogan! Nevertheless, the Frankfurt market rose on the election result, as it should have done.

Germany is sometimes knocked for its export orientation. Its balance-of-payments surplus was $179.4 billion for the fiscal year that ended June 30, and is expected to be 4.0% of GDP this year.

Rest assured, however, that this is strength, and not a weakness. With world trade recovering, the German economy can be expected to benefit. Just look at Germany’s auto sector, which may be the most well rounded in the world. It boasts such strong luxury brands as Mercedes (NYSE ADR: DAI), Porsche and Audi. And it includes such high-volume – but innovative – manufacturers as Volkswagen AG (OTC ADR: VLKAY). German automakers are likely to gain market share against faltering U.S. competitors in the coming global recovery.

Another plus: Germany’s savings rate rose to 12.8% of GDP in the first half of 2009, a 16-year record. That compares with the feeble rate of only 4% in the United States, up from close to zero in the preceding three years. In a competitive world with the financial sector in difficulty, it’s better to be a capital-rich country running a trade surplus than the opposite, like the United States.

The economic recovery is a mixed bag from one market to another. But in Germany, it seems in Germany to be proceeding briskly. GDP, which fell sharply in the first quarter, rose at a 1.3% annual rate in the second quarter. Manufacturing orders rose by 3.5% in July, after a 3.8% rise in June. The ZEW index of economic sentiment has risen in each of the last six months, reaching a healthy 57.7 (50 is neutral) in September.

With competitive manufacturing, a business-friendly government and plenty of domestic capital, Germany is about as healthy an economy as there is in the world today. You should think about staking a claim to this outlook, even if it’s only the MSCI Germany Exchange-Traded Fund (NYSE: EWG).

Source: Why You Should Invest in the ‘New’ Germany

But Eric Roseman says Spain’s solid regulatory system should protect its banks from the worst of the storm. This is despite a major slump in real estate that is wreaking havoc in the wider economy.

This makes the country’s biggest bank, Banco Santander (NYSE:STD), an interesting investment option…

More from The Sovereign Society:

Economic paralysis is starting to grip Europe. In the span of just four days, five European banks have either collapsed or have been bailed out by governments.

On Tuesday, the Irish government – in an unprecedented move – guaranteed all deposits for the country’s five largest banks, possibly stemming a run. Ireland is now viewed as a European safe haven amid the ongoing financial storm, because the government is protecting all deposits, unlike other European deposit schemes.

On Monday, the Benelux countries of Belgium, the Netherlands and Luxembourg collectively spent US$16 billion to keep Fortis NV alive, one of the largest financial services companies in the Low Countries. Each government got a 49% share of their specific banking operations in each individual country.

While Europe heads deeper into a credit crisis of its own, the Spanish market has been able to thus far absorb weaker financial institutions and has not witnessed even a single bank failure among its largest companies.

In Spain – where I’m visiting this week – the country’s banks remain mired in an increasingly vulnerable residential real estate market that has already peaked. Barcelona property is now in a downtrend while the rest of the region, including Costa Brava and even Costa del Sol in the south is also clearly in a major downtrend.

Unlike many other European countries, Spain has some of the best regulations governing real estate ownership, including provisions against aggressive lending. That’s something that didn’t exist in the United States or England before 2008 and it’s the root cause of the pain felt by Anglo-Saxon economies over the last 12 months. This difference might save Spain from more economic hardship.

A few of the smaller Spanish banks remain exposed to real estate loans that are souring. But I doubt you’ll see a bank panic grip Spain. The country’s biggest bank, Banco Santander (NYSE:STD), is flushed with net cash-flow and has more than two-thirds of its earnings generated outside Spain.

But aside from Spain, the rest of the region will see more bank failures. Europe is still about 6-9 months behind America’s credit cycle and we’re now seeing more signs of weakening economic growth. As this process reverses, I expect more turmoil in Europe, and more failures and bailouts.

Source: Bank Bailouts Accelerate in Europe, but Spain Will Be Spared

Eastern Europe has grabbed its fair share of international headlines recently.

Unfortunately, due to Russia’s invasion of Georgia, many of them have come for the wrong reasons.

If you look past the mainstream doom-and-gloom, though, what you’ll find is a region full of much brighter opportunities for savvy investors. And as the difficulties in Georgia get pushed into the past, the world’s focus will once again shift away.

But that’s normal – Eastern Europe is usually overlooked by the developed world anyway. Here’s how to separate yourself from the crowd and become a smarter investor…

Eastern Europe has long intrigued sophisticated travelers (and investors).

While under Soviet control, Eastern Europe’s considerable potential was left untapped. Stifled by the inefficient Communist state, the region lay economically dormant.

But when the Berlin Wall fell in 1989, it sparked hope. Still, in a region with thousands of years of memories, progress can be a little slow. A full fifteen years passed between the release of the Soviet chokehold on Eastern Europe and Poland’s entry into the European Union.

Once that happened, however, many of Poland’s neighbors followed suit. Bulgaria and Romania joined the federation last year and Slovenia held the international body’s rotating presidency until the end of June.

Today, it seems the Eastern European slumber is over for good. The region is awake and its residents are serious about catching up to the West. Eastern Europe is growing ever more vibrant and the best part for us is that it offers a remarkable – if still widely overlooked – investment opportunity.

In short, serious investors simply can’t afford to overlook these countries any longer. After all, they can bring strong returns to your portfolio – and not only that, put hefty double-digit dividends in your pocket along the way, too.

Sizzling GDP Growth

One quick way to gauge the region’s potential is from its GDP growth. As the old adage goes, “A rising tide usually lifts all boats.” And Eastern Europe’s tide is certainly living up to that.

At 10.3%, the GDP growth in Latvia rivals China. And at least eight other Eastern European countries exceed the world’s average 5.2% annual GDP growth rate. By contrast, the U.S. economy lags by several percentage points.

As you can see on the chart below, these favorable economies have fueled the absolutely sizzling market performance in Eastern Europe for the past five years. The Czech Republic market has surged 232.6% in U.S. dollar terms over that time, while Poland’s market enjoyed an outstanding 217.3% jump. And Latvia, even with its stellar GDP growth, was a relative underperformer, having increased “only” 90.8% for Stateside investors.

And the S&P 500? It notched a mere 29.1% advance over the same period.

USA vs. Eastern Europe

Clearly, if you’re concentrating your investments on U.S. companies, you cannot reasonably expect to mirror Eastern Europe’s triple-digit returns. The U.S. simply doesn’t have the growth to power that sort of market performance.

Even if you exclude all other factors, U.S. growth is limited by the current inertia of the world’s largest economy. By contrast, it’s easier for a smaller, underdeveloped country to grow – and maintain a relatively high growth rate for years – than it is for a large, mature economy like the U.S.

And current forecasts show that trend is likely to continue over the long-term. Across Eastern Europe, GDP growth is greater than 5%, while it’s less than 2% in the U.S.

Take a look at the 2008 GDP growth forecasts…

Country Est. 2008 GDP Growth Lithuania +5.5% Bulgaria +6.1% Poland +5.4% United States +1.7%

Country Est. 2008 GDP Growth Romania +7.0% Slovenia +4.5% Russia +7.5% Ukraine +6.2%

These projections certainly look less than rosy for the U.S., but there is a glimmer of hope. Why? Because growth in Eastern Europe is expected to continue, even as we struggle in the States. That means you still have time to profit from Eastern Europe’s good fortune.

Eastern Europe Wants Your Investment… And Is Prepared To Pay You To Get It

And in addition to strong economic growth, the dividend payouts from the region’s companies are far higher than we see in the U.S.

• Take Estonia, for example, which has an average dividend yield of 5.1% – more than twice the S&P 500.
• Elsewhere, Poland boasts a 4.5% average dividend yield, while Czech Republic’s average is 4.4%.

The bottom line is this: Eastern Europe wants to attract international capital – and is willing and able to pay for it, as it seeks to finance its continued expansion

Some folks shy away from investing in Eastern Europe, due to the sometimes complicated, time-consuming and expensive nature. But it doesn’t have to be any of those things. We’ve found an exchange-traded fund that does all the legwork in bringing these companies to you.

In fact, I added shares of an ETF focused on this profitable and promising region to my “Ultra High-Yield” Portfolio in July. It’s not only positioned in a high-growth market and poised to deliver double-digit gains, it’s also paid an astonishing 25.2% in dividends and short-term capital gains (long-term gain distributions juice the return even further).

The fund’s 44 companies are the crème de la crème of Russia and Eastern Europe, with each region representing half the portfolio. I’d like to offer this same recommendation to you that I did my High Yield International newsletter subscribers – and I’d like to you to get on board, too by giving you the name of this ETF.

Source: Eastern Europe Proves That High Growth And High Income Are Still Possible

I had a bet in one of our morning meetings about six months ago.

I bet everyone in the room that when British Energy was sold, it would go to Electricite de France SA. If it didn’t happen, I’d eat my hat.

Then, at the start of June, the deal with EDF fell through. It looked like I’d made the wrong call. My colleagues are uncharitable folks, I’m afraid. They laughed at me.“You were so categorical,” they said, “But you were wrong.”

Well, it looks like I might be about to have the last laugh. And it’s all down to one man. His name is John Hutton.

It seems odd praising a member of the current Labour government, but John Hutton is that rare breed of politician… a man doing the right thing.

On Thursday last week, he risked the ire of the Guardianistas by saying that getting our energy strategy right was more important than pandering to the whims of every green organisation in the country.

Well done him.

We must defeat dogma

The environmentals have already cost us vital time and damaged our prosperity. They have delayed our new energy strategy in the courts and at places like Kingsnorth power station. We can’t let them win.

“The government repeatedly tells us climate change is the biggest threat we face and this seems to suggest that he (Hutton) doesn’t even get the basics,” said Friends of the Earth climate campaigner Dave Timms.

Sorry Dave. It’s you that doesn’t get the basics. You are just blindly following an unthinking dogma.

By 2012, the last of our Magnox nuclear reactors will be closed. A number of older coal-fired stations may also have been shut down – especially if people keep listening to people like Dave.

Demand is expected to overtake supply somewhere between 2012 and 2015, creating a serious generation gap. There is a real chance that the lights could go out within the next 5 years. Unless we do something about it.

Coal and nuclear is the answer

To fill the energy gap we will need more coal-fired power plants. If we don’t, we are going to be at the mercy of the Russians because we need their gas. That would be a disaster.

We also need to start building the next-generation of nuclear power stations right now. When these are ready, we can decommission the dirtier coal plants.

Of course, coal burning will put extra emissions into the atmosphere, but I am afraid that is something we will have to live with. The alternative is far scarier.

An economy without energy is a dead economy. It brings strife, political turmoil and poverty. This is where Friends of the Earth and Greenpeace are trying to lead us.

They oppose coal power. They oppose nuclear power. But they don’t have any reasonable alternatives.

They have various flowery theories about developing alternative power, but they have no plans that could produce the amount of energy an economy the size of Britain needs.

If we listen to them, we are on a one-way track to an energy poor future. Energy poverty will generate real poverty.

So, Hutton is starting to put the greens in their place. Well done him.

He’s also right about British Energy, owner of all our nuclear power stations. We need to sell it to the French – and sell it soon.

We should sell British energy to the French because they have the skills and we do not. It’s that simple.

France generates 79% of its energy from nuclear power and has some of the best nuclear engineers in the world. We have a skills shortage that is getting more acute by the day.

Despite the opening of a nuclear skills academy in Cumbria and new plans for a National Nuclear Laboratory, we don’t have enough engineers.

On 12 August, Bill Macdonald of the Health & Safety Executive Nuclear Directorate said:

“We have a real demographic problem because 40% of our staff are over the age of 60. We are struggling to get enough specialists; you can’t train them from nothing. If it takes longer, it takes longer. The [nuclear] programme will be put back; the government don’t like it.”

That’s why we need the French… and why we need them now.

John Hutton also said that a deal between EDF and British Energy could be done in the next fortnight. There is light at the end of the tunnel.

Let’s hope the deal goes through. For all our sakes.

P.S. To discover how you could profit from out looming energy crisis click here.

Source: We Might Have a Future in Two Weeks’ Time

Sometimes it’s the most innocuous-looking headlines that spell the most trouble. With most papers leading on “here comes the recession”-type stories, it would be very easy to overlook the report on page five of yesterday’s FT that the “ECB is to tackle abuse of liquidity aid”. And no wonder. The story sounds either a) very technical or b) something about the financial equivalent of binge drinking.

But there’s a bombshell being delivered here – the European Central Bank is about to stop bailing out eurozone commercial banks. And that could mean another big lender going ‘bust’. Time to reach for your tin hat again…
The ECB is about to stop bailing out eurozone commercial banks

The European Central Bank has said nothing official as yet about its plans to take a closer look at its support for European banks. In true eurozone style, the ECB’s thoughts are being carefully leaked in a dull bureaucrat-ese that’s easily ignored and designed not to prompt a panic.

ECB policymakers have agreed a “certain amount” of refinement to the central bank’s rules,” said the governor of Luxembourg’s central bank, Yves Mersch, at the weekend. The changes under consideration weren’t “a broad-based revolution”, he added. However, as markets evolved, “we have to adjust our framework regularly to market practices” which would “concern some instruments”.

Hardly a “stop the press!” moment. But fortunately, Not Wellink, the Dutch central bank chief and a major figure on the ECB council, has been a bit more specific. He said that banks were becoming addicted to the Frankfurt ‘liquidity window’. That’s where the ECB has been providing cheap funding for eurozone banks by lending against the collateral of a whole range of so-called asset-backed securities (ABS).

Let me explain. A number of European banks weren’t able to borrow enough cash to keep their balance sheets balanced because other investors weren’t prepared to lend them the money. The only way they’ve managed to keep their heads above water recently has been to shovel the dodgy loans they have made onto the ECB – a sort of financial pass-the-parcel. Without it, those banks would have gone bust, a la Northern Rock.

But the bad news for these lenders is that it looks like the party’s over. “If we see banks dependent on central banks, then we must push them to tap other sources of funding”, Mr Wellink told Dutch financial daily Het Finacieele Dagblad. “There’s a limit how long you can do this. There is a point where you take over the market”.

Exactly. I can’t think why it’s taken the ECB so long to work out that it’s storing up problems for the future. After all, it was prepared to hike interest rates two months ago when worried about too much inflation. Perhaps it was because the Bank of England and the US Federal Reserve had to put in place their own panic measures – sorry, emergency funding arrangements – while the ECB already had something suitable in place.

But this is where the second part of the problem arises. Though its policy buys time, the ECB ends up with a shed-load of assets whose value is highly debatable at best. That’s bad enough in itself, but there could be much more fallout. The Maastricht Treaty – one of the EU foundation stones – formally prohibits long-term taxpayer support of this kind for the EMU banking system.
“The ECB is in an unenviable situation”, says Paul McCulley of Pacific Investment Management. “The lender of last resort should be just that, not a permanent provider of funds.”

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Spanish banking sector could be facing collapse

So it’s starting to look like the game could be up for a large chunk of the Spanish banking system. We’ve written before about the parlous state of the Spanish property market and, as a result, the hole into which the country’s banks have dug themselves. The latest Bank of Spain data shows that the country’s banks have increased their ECB borrowing to a record €49.6bn (£39bn). “A number have been issuing mortgage securities for the sole purpose of drawing funds from Frankfurt”, says Ambrose Evans-Pritchard in The Telegraph. “These banks are heavily reliant on short-term and medium funding from the capital markets. This spigot of credit is now almost entirely closed”.But the ECB will have to end this bailing-out soon. Now it’s possible – just – that the central bank can deal its way out of this mess, and somehow avoid the carnage that a Spanish bank bust would cause. But as the world’s banking glitterati gather in Jackson Hole, they’ve got plenty of hard thinking to do. After all, if Spain’s banking sector collapses, it would result in even tighter credit, less lending and less spending.

One – admittedly unorthodox solution – could be for the ECB to simply pretend that Spain doesn’t exist. If that sounds silly, that’s because it is. Yet, that hasn’t prevented British buy-to-let lender Paragon from trying to disown an entire sector of amateur landlords who have fallen on hard times.

According to The Guardian, Paragon now says that investors in the kind of overpriced city-centre apartments which are now virtually unlettable and unsellable should not be classed as buy-to-let investors. “These properties were targeted by speculative purchasers who thought they could make a quick buck by flipping them. That is not the buy-to-let market. Buy-to-let investors do not own a property unless they can demonstrate that there is tenant demand”.

It’s an interesting solution to the housing bubble implosion – just stick your fingers in your ears and pretend it’s not happening. But somehow we don’t think it’ll catch on.

Source: Why Spain’s Banking Sector Could be Facing a Death Blow

German giant Deustche Bank AG (DB) and Switzerland’s UBS AG (UBS) both declared they would not need to raise further capital yesterday (Wednesday) as the bulk of losses tied to mortgage-backed securities is now behind them.

“At first glance this is some much-needed positive news for Deutsche in particular but also for the whole sector,” Helge Rechberger, head of equity market research at Raiffeisen Zentralbank in Vienna, told Bloomberg News. He said he remains “cautious” about the financial industry.

A positive note from a London-based JPMorgan Chase & Co. (JPM) analyst helped reinforce that European banks are approaching the end of the current mortgage-backed crisis.

“The worst of the markdowns seems to be over,” analyst Kian Abouhossein wrote of European banks in a note to clients yesterday, Bloomberg reported. “We do not believe that further capital raising is needed at this point.”

The JPMorgan analyst went on to say that while European banks’ need for additional capital might be over, further write-downs are still likely at UBS as well as rival Swiss bank Credit Suisse Group AG (ADR: CS). Abouhossein also expects more markdowns at French financial firms Societe Generale SA (OTC ADR: SCGLY) and Natixis SA (PINK: NTXFF).

The news boosted European bank shares, with Deustche shares up 3.3% and UBS stock up 1.6% at the close of European trading yesterday. Other European banks received a boost as well with French firms Natixis up 4.4% and Credit Agricole SA (PINK: CRARF) up 0.8%, while Turkey’s Fortis Bank AS had a gain of 2.4% according to Reuters data.

The gains could strengthen the European Central Bank’s resolve to hike its key interest rate tomorrow when ECB President Jean-Claude Trichet and the other members of the monetary policy committee meet today (Thursday).

It is widely expected that the ECB will vote to raise its rate to 4.25% from its current 4.0% to fight rampant inflation throughout the Eurozone.

“It’s pretty much a done deal” that the ECB will lift its key rate from 4%, Nick Stamenkovic, fixed-income economist at RIA Capital Markets in Edinburgh, told MarketWatch.

Source: European Banks Boosted by More Positive Outlook

Profit Taking Dominates the Day

By Chuck Butler

Well, the profit taking that I talked about yesterday morning, continued for most of the morning yesterday, causing the euro to fall from the 1.5810 level I saw when I turned on the screens, to the low 1.57 area. It had to be profit taking because why would anyone buy dollars VS euros as a long time investment, with the dynamic duo of the Jobs Jamboree and an ECB rate decision staring the dollar bulls right in the face this week…

The single unit has pushed back higher overnight to 1.5775, as I look at the currency screens… The European Central Bank (ECB) meets on Thursday this week, and although most of the markets’ participants, in the U.S., will be dreaming of barbequed ribs, and fireworks, they will stop to see the ECB raise rates. But the most important part will be ECB President Trichet’s press conference following the rate hike… It will be important for Trichet to remain hawkish or else the rate hike will be quickly swallowed up by the profit takers, which means the euro won’t get much love from the higher rates.

Trichet received an arrow for his rate hike quiver this morning as German unemployment for June, fell to a 16-year low… This tells me, and should tell you, the barber, and the guy down on the corner selling bakery pretzels that Germany is resisting the global slowdown so far… Germany is the Eurozone’s largest economy, so this report carries a lot of weight with the Trichet and the other ECB ministers. Annual growth in Germany remains above that in the U.S. and the employment picture is healthier than that of the U.S.

OK… Just in the past 30 minutes the euro has broken higher to 1.58 again… Let’s hope the NY Boys took all of their profits yesterday, and will leave this rally alone! The euro could revisit its previous high of 1.60 again, but I just can’t see it going higher than that, unless all hell breaks loose in the U.S. economy… Then… Who knows how high it can go?

Source: Profit Taking Dominates The Day 

The Dow Jones Stoxx 600 closed down 2.6% to 288.48, the worst finish for the Eurozone index since October 2005.

The FTSEurofirst 300 had a 2.5% drop, to close at 1,197.02 points, its largest one-day percentage drop since mid-March, Reuters reported.

Regional indices faired the same, as the Paris-based CAC40, London’s FTSE 100, Madrid’s IBEX 35 and the Frankfurt-based DAX all posted declines.

“Overall, there is unprecedented confusion as investors seek to weigh up credit-led deflation against commodity-led inflation – with the unknown factor being how close we are to our commodity/infrastructure constraints to growth,” analysts at Credit Suisse Group AG (ADR: CS) said, MarketWatch reported.

Adding to the sell-off was a report from Goldman Sachs Group Inc. (GS) analysts further downgrading the outlook for U.S. financials such as Citigroup Inc. (C).

The specter of higher interest rates and tighter credit markets shook European financial firms that are still struggling due to exposure to the troubled U.S. subprime mortgage market that has led to billions in write-downs at some of the European Union’s most well known names.

A $19 billion loss in the first quarter for Swiss bank UBS AG (ADR: UBS) led to the ouster of former Chairman of the Board Marcel Ospel.

More recently, Britain’s Barclays PLC (ADR: BCS) announced it would raise $8.9 billion in much-needed capital in order to prop up its weak balance sheet and try to maintain its dividend. Most of the emergency liquidity will be obtained through investments from foreign sovereign wealth funds.

And if a recent report from analysts at the Royal Bank of Scotland Group PLC (ADR: RBS) is correct, the worst is yet to come for global financial firms that have already taken almost $400 billion in write-downs thus far.

RBS analysts have warned clients to brace for a full-blown crash in the global stock-and-bond markets in the next three months, as the conflicting realities of slowing growth and rising inflation paralyze the world’s major central banks – causing “all the chickens [to] come home to roost,” Great Britain’s Daily Telegraph newspaper reported.

But even while Europe’s markets staggering and financial firms still looking to regain traction, Eurozone inflation is grabbing the front-page headlines.

Trichet’s Tough Talk on E.U. Inflation

Trichet has signaled that the ECB will raise its key interest rate to 4.25% from its current level of 4.0% at its next monetary policy meeting scheduled for July 3. The ECB president has been quick to add that he has no further plans after the initial 25-basis-point hike and will wait to see how inflation plays out over the course of the year.

“I didn’t say that we would envisage a series of increases,” Trichet told the European Parliament earlier this week. “I didn’t say that. That being said, we never precommit.”

While Trichet is playing his cards close to the vest about future monetary policy decisions, the market is already betting on a series of rate hikes.

Eonia (Euro Over Night Index Average) forwards contracts are being priced at 4.5% for December and 4.64% for March, Bloomberg News reported.

“There is disagreement among ECB policy makers about the future course of monetary policy, but one increase will simply not be enough,” Jacques Cailloux, chief euro-area economist at Royal Bank of Scotland Group PLC (ADR: RBS) in London told Bloomberg. “At the end of the day, inflation concerns will rule.”

Year-over-year, the inflation rate was at a 3.7% in May for the 15-nation Eurozone, well above the ECB’s preferred target of 2.0%. Trichet has repeatedly said the central bank will act to fight inflation before dangerous secondary effects, such as higher wages, become entrenched in the European economy.

And the banks’ “primary mandate” is fighting inflation. Despite some economic softening in various E.U. member countries such as Spain, the ECB is being called upon to prove its hawkish stance is more than just talk.

“It would not be credible for the ECB to hike just the once and then expect inflation to fall back,” Robert Robis, a fixed-income portfolio manager at OppenheimerFunds Inc. in New York, which manages $260 billion, told Bloomberg. “It has its hand forced by its own mandate.”

If Trichet & Co. don’t come through with the rate increase that has been widely alluded to in the press, it’s likely that the ECB president will raise a harsh round of criticism, much like his U.S. counterpart, Federal Reserve Chairman Ben S. Bernanke.

Faced with soaring food and energy prices, Bernanke and the other members of the Federal Open Market Committee (FOMC) voted to hold the Federal Funds rate steady at 2.0% on Wednesday, as downside threats to economic growth remain.

“When it comes to inflation, the Fed has clearly shown that it has no stomach for actual combat,” Peter Schiff, president of Euro-Pacific Capital Inc., told The New York Post.

“If it did, it would have long ago followed the lead of the ECB and held the line on interest rates,” Schiff said in reference to the most aggressive rate campaign in a generation. “In truth, Bernanke simply wants to preserve the expectation that he will act, even if it is the last thing on his mind.”

Source: E.U. Stocks Slide as ECB Gears Up to Fight Inflation with Higher Rates