By Anne D. Picker, International Economist,Econoday
Monday, July 16, 2001

With little in the way of domestic economic news in the week, foreign exchange markets focused on Argentina's troubles. One of the country's problems, which had been an asset, is that its currency (Argentine peso) is pegged to dollar. This virtually eliminates monetary policy from the tonics currently available to the Argentine government to bail itself out. Because of the dollar's high value all debt repayments are more expensive while the peso's high value, especially to the euro, has further eroded the nation's competitiveness. It is an axiom in the currency markets that when tremors rattle the global economy, investors seek safety in the dollar. But in the past week, as crises deepened, the dollar initially fell against the euro only to recover at week's end. Analysts acknowledge that the U.S. currency has repeatedly defied predictions.

Equities markets were certain to share U.S. market nerves on Tuesday, which were echoed in European and Asian markets on Wednesday. The Mexican Bolsa, the best performing index followed here, suffered from the angst spreading northward from Argentina. Equity markets weakened as investors began to search for a safer haven. In Asia, equities continued to be troubled by poor earnings. And investors' appetites for risk have been curtailed since the technology bubble meltdown.

The European Central Bank suggested it would not reduce interest rates soon, even as the economy slows and inflation shows signs of receding. In its July report, the ECB said that its current monetary policy stance remains appropriate to ensure that price stability will prevail in the euro area over the medium term. The ECB hasn't lowered its policymaking interest rate since May 10 because policy makers want to see evidence that inflation will drop below 2 percent, a goal the ECB has missed for a year. German business confidence is at a two year low and French industrial production is sliding. Major employers warn a slowing economy will erode profit growth, which will lead to reductions in the number of worker. Layoffs are not easy to get done because of rigid labor markets and high government imposed hurdles. While the Federal Reserve also has a mandate to spur employment, the ECB's sole goal is to rein in inflation.

Friday, the Bank of Japan monetary policy board voted unanimously to keep policy unchanged, brushing aside mounting domestic and international pressure for the BOJ to fight deflation and support the ailing economy by flooding the banking system with more cash. After the two day meeting, the Bank said it will continue conducting money market operations aimed at keeping the outstanding balance of commercial banks' current accounts held at the central bank at around 5 trillion yen ($40.1 billion). However, the BOJ stands ready to inject more funds into the financial system if the risk of financial instability appears. This is the line the BOJ has taken since its March 19 "quantitative" easing, which sent overnight interest rates back down to zero and shifted the policy target to the amount of excess cash in the market. Finance Minister Masajuro Shiokawa called on the BOJ Thursday to ease credit further in order to stop relentless price declines. But the policy board is reluctant to take additional easing measures at this stage, saying economic deterioration has so far held within the range of expectations when it launched the present policy. The BOJ also seems reluctant to act prior to election on July 29.

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