10/05 11:46

Euro Sinks on Concern Surprise ECB Rate Boost May Slow Region's Growth

By Mark Tannenbaum

New York, Oct. 5 (Bloomberg) -- The euro fell to its lowest level since central banks joined to buy the currency two weeks ago, on concern a surprise interest-rate increase today by the European Central Bank may choke growth in the 11-nation region.

The ECB raised its benchmark rate a quarter-point to 4.75 percent. Twenty of 25 analysts polled by Bloomberg News predicted no increase. The action sparked a brief euro rally, as it boosted returns on euro deposits, making them more attractive.

``The biggest risk to the euro is that higher interest rates will further dampen'' business and consumer confidence and eventually slow economic growth, said Bob Lynch, a currency strategist at BNP Paribas Corp.

The euro jumped a half-cent within 30 minutes of the rate move, then retreated to a two-week low before another hour had passed. It rose as high as 87.86 U.S. cents and then fell to 86.96 cents, compared to 87.46 cents late yesterday in New York.

The euro also erased gains against the yen, and fell to 95.16 yen from a high of 95.99 after the rate rise, and 95.70 yesterday.

On Sept. 22, starting at a level of about 87-87.15 cents, the ECB, along with the central banks of the U.S., Japan, the U.K. and Canada, surprised the currency markets with three rounds of euro purchases, driving the euro as much as 3.5 percent higher at one point.

Besides concern about the impact the rate increase may have on growth, the currency also surrendered gains as some investors may have bet the banks would buy the currency again after the ECB rate move, said Seth Garrett, director of foreign exchange at Credit Suisse First Boston.

Money Flows

ECB President Wim Duisenberg, speaking at a news conference after the rate increase, said the bank ``will continue to monitor (exchange rates) closely'' and act on them ``as appropriate.'' He also said that with the rate boost there is the ``hope'' that less capital will flow out of the euro area.

The euro has dropped in 17 of the 21 months since it began trading in January 1999, as economic growth in the U.S. outpaced Europe, drawing investors from there. Net foreign purchases of U.S. stocks and bonds totaled $243 billion for the first seven months of the year, up from $197 billion for the year-earlier period, according to Treasury Department figures.

``Intervention works only when the market is of a mind to go in the same direction'' as the central bank buying, said Alan Brown, group chief investment officer and chairman at State Street Global Advisors in London, which manages $750 billion. The central bank buying may not have a lasting effect at this point, given the continued flow of investment to the U.S., he said. Even so, he believes European financial assets are a good buy now because of the weak euro.

Drooping Confidence

The euro sank to a record 84.43 U.S. cents on Sept. 20, after weaker-than-expected German business confidence statistics raised concern growth may be slowing in the euro zone's largest economy. Today, the European Commission said confidence among executives and consumers in the euro zone slipped to its lowest level in nine months in September.

The falling euro raises prices on imported goods and threatens to fuel inflation. It also hurts U.S. companies selling their products in Europe. About a dozen major U.S. corporations, including McDonald's Corp. and Gillette Co. have said in recent weeks that the euro is hurting sales.

The ECB's Duisenberg also said ``there is no link'' between the Sept. 22 central bank euro buying and today's rate boost, although some analysts said the increase might have been aimed at making the currency intervention stick.

``Many people believe that intervention in a currency market has a better chance of being effective if it's backed up by monetary policy,'' said Lynch at BNP Paribas.

The firm projects the euro will fall to 82 cents this quarter, although Lynch said that drop may be forestalled as long as speculation lingers central banks will join to purchase euros.

A spokesman for the European Central Bank declined to comment on whether the bank was purchasing euros today. Labor Statistics Ahead

The dollar reached a seven-week high of 109.60 yen, from 109.28 yesterday, before falling back to 109.32. The earlier gains came as the U.S. is set to report tomorrow on labor statistics for September.

The employment figures may boost the dollar. They are likely to reinforce that while six rate increases by the Federal Reserve since June 1999 may have slowed the rate of economic expansion, U.S. growth remains more rapid than in the euro zone or Japan, analysts said.

The government will probably report the economy added 230,000 non-farm jobs last month, after shedding 105,000 in August, according to a Bloomberg News survey.

The U.S. economy will probably grow 5.2 percent this year, compared with 1.4 percent in Japan and 3.5 percent in the euro zone, according to the International Monetary Fund.

The U.S. benchmark interest rate of 6.5 percent compares with an official rate of 0.25 percent in Japan, and 4.75 percent in Europe.

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-- Carl Jenkins (Somewherepress@aol.com), October 05, 2000