The European Central Bank Poised to Abandon Interest Rate Increase

Sarkozy wins fight with European Central Bank as ECB ditches interest rate rise.

The European Central Bank is poised to abandon a rate rise planned for early September, bowing to intense pressure from French politicians and a growing chorus of economists across Europe.

The policies of the European Central Bank (ECB) have been under fire by French President Nicolas Sarkozy. He particularly criticized the ECB's interest rate policy, saying the bank has deliberately let the euro rise relative to the dollar. The simultaneous injection of liquidity into the markets was criticized in particular, since it saves speculators but does not help business by lowering interest rates. Pres. Sarkozy realizes what a negative impact would have on the French economy. As Sarkozy put it, the ECB policies mean that, as far as the French are concerned, "We sink."

“We sink” refers to the measures necessary In order to achieve his goal, he needs lower interest rates to facilitate entrepreneurial activity as well as general business expansion -- and he needs a cheaper euro to facilitate French exports.

Sarkozy wants to lower interest rates and a cheaper euro. Unlike France, Germany is primarily concerned about inflation, particularly in the face of soaring energy prices.

The ECB serves multiple sovereign countries, many of which have divergent interests and desires and therefore need different monetary policies from the central bank. The questions, therefore, are simple. How do you have multiple sovereign states within a single central bank? How do you reconcile national sovereignty with a multinational monetary system when it is impossible to create a single monetary policy that satisfies the policies of multiple sovereign nations? Someone must always be hurt. What is of great significance is that Sarkozy has made it clear that it is France, one of Europe's founders, that is being hurt -- to the benefit of its partner, Germany.

The irreconcilable problem is a single currency. It would have been simpler had there not been a euro. The structure of the European Union cannot easily support the policy changes that Sarkozy feels he must implement in order to maintain the French economy and French competitiveness. The ECB must harmonize its policies, but it is not clear how it can harmonize the diverging policies and interests of Germany and France.

9/03/07: The euro ended its recent rally, falling to $1.3638 against the dollar.