The U.S. Federal Reserve (Fed) and the European Central Bank (ECB) are divided by a common goal: price stability. Fed Chairman Bernanke has made it clear in his recent testimony and speeches that the Fed would react should food and commodity inflation lead to an increase in core inflation. Let's spell this out: the Fed is ready to R E A C T. We are not aware of any central bank that is proud of reacting, but rather acting preemptively to mitigate inflationary concerns; naturally, a central bank may often be forced to react, but to do so by design puts the cynical view that central bankers are too far behind the curve into a new light.
In contrast, in Thursday's press conference, the ECB President Trichet said "risks to the outlook for price developments are on the upside;" and that it "is paramount that the rise in [..] inflation does not lead to second-round effects." He then clarified that the ECB is "in a posture of strong vigilance," and that based on past experience, this suggests an increase in interest rates at the next meeting is possible. Indeed, in ECB parlance, "strong vigilance" has all but once been a codeword for an upcoming rate hike.
Given the most recent developments, the jump in the euro versus the U.S. dollar should not be a surprise, and may be exactly what Bernanke is trying to achieve. Bernanke, unlike his predecessor, embraces the discussion surrounding the dollar. Indeed, we believe Bernanke considers the U.S. dollar a monetary policy tool. Our assessment is based on both words and action by the Fed Chair. Bernanke has argued:
The divergence between the Fed and the ECB has long been in the making. Finally, the market is starting to embrace reality.
Mar 4, 2011
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The views in this article were those of Axel Merk as of the article's publication date and may not reflect his views at any time thereafter. These views and opinions should not be construed as investment advice nor considered as an offer to sell or a solicitation of an offer to buy shares of any securities mentioned herein. Mr. Merk is the founder and president of Merk Investments LLC and is the portfolio manager for the Merk Hard and Asian Currency Funds. Foreside Fund Services, LLC, distributor.
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