President Trump and the weak euro

President Trump is certainly right to be upset about the euro’s current weakness. However, he is mistaken to signal out Mario Draghi, head of the European Central Bank (ECB), for blame. Rather, he should be pointing his finger at himself and at the fiscally ultra-orthodox German government for their major part in the euro’s weakness.

The factor precipitating President Trump’s latest outburst against a weak euro was Mario Draghi’s announcement yesterday that the ECB was contemplating whether or not to lower interest rates and to resume its bond buying program. He did so in the context of a weakening European economy and of the persistence of European inflation at around half of the ECB’s official target of close to but below 2%. As was to be expected, the euro weakened on Mr. Draghi’s announcement on the expectation of a future lowering in European interest rates.

Blaming Mr. Draghi for the Euro’s weakness is akin to shooting the messenger. The real reason for a weak European currency is the weakness of the European economy and the reluctance of those European countries which have fiscal room to use that room to support the economy. In those circumstances, had he not announced the possible need for future monetary policy easing, Mr. Draghi would have been derelict in his duty of fulfilling the ECB’s inflation mandate.

The truth of the matter is that President Trump’s America First trade policy is a principal cause of the European economy’s recent weakness. This is especially the case considering how export dependent key European economies like Germany are. It is those economies that have been the hardest hit by the Chinese economic weakening that has resulted from heightened US-China trade tensions. President Trump’s threat to impose a 25% import tariff on European automobiles has also done much to undermine European investor confidence.

Aside from assuming blame for at least part of the European economy’s present weakness, President Trump should be putting real pressure on the German government to do more to stimulate the European economy through an expansionary fiscal policy. This would seem to be especially the case considering that Germany now has a small budget surplus and a very low level of public debt. It would also seem to be the case given that Germany is now running the world’s largest external current account surplus, which currently amounts to around 7.5% of GDP.

A stronger European economy, together with a German budget policy assuming more of the burden for supporting the European economy than at present, would allow Mario Draghi to pursue the ECB’s inflation mandate without causing an undue euro weakening.

However, judging by President Trump’s single mindedness in pursuing an America First trade policy and by the German government’s fixation with balancing its budget, I am not holding my breath for this to happen. Instead, I am bracing myself for further skirmishes in the US-European currency war as the European economy continues to weaken relative to that of the United States and as President Trump continues to threaten Europe with automobile import tariffs.

 
Desmond Lachman is a resident fellow at the American Enterprise Institute. He was formerly a Deputy Director in the International Monetary Fund’s Policy Development and Review Department and the chief emerging market economic strategist at Salomon Smith Barney.