ECB in the dock over exchange rate

With Rhodia just about to sign up a 1.2bn euro Anglo-US acquisition, thus increasing its exposure to sterling and the dollar, the chief of the French speciality chemicals maker, Jean-Pierre Tirouflet could scarcely contain his satisfaction with the new European single currency. From 1992 to 1997 European industry suffered from an overvalued exchange rate, he said, a situation almost entirely due to the "absurd" monetary policy conducted at the time. Now monetary policy is reasonable, he reckons; since its introduction at the beginning of last year the euro has lost around 15% of its value against the dollar. As a result, industry in the eurozone is enjoying a recovery.

Nor does Mr Tirouflet appear to be looking at a rally in the euro. He argues that, on purchasing power comparisons, certainly against the dollar, the currency is scarcely undervalued. Well, it may be a bit on the low side, but he and his Rhodia colleagues are not grumbling.

They are not alone. Some quite big bits of the eurozone have plenty to smile about. The fall in the exchange rate has not (yet) triggered a rise in inflation, though this week's import prices data from Germany and the country's current wage round are causing flutters of concern. Growth, however, is looking healthier. The predictions are for 3-3.5% this year and probably next. That may even be enough to make a dent in the double-digit unemployment levels.

Not that the euro can take all the credit. The eurozone might not have bought into the new economic paradigm - technology-driven growth with low inflation - to the same extent as the US but (European Central Bank willing) supply side reforms as well as a weak exchange rate are helping.

Europe has been hit by a whole series of mergers and acquisitions. Whether or not Vodafone Airtouch's hostile bid for Mannesmann succeeds, the German corporate sector will never be the same again. The changes to the capital gains tax regime proposed by the German finance minister, Hans Eichel, will help too, by making it more profitable for German businesses to unwind cross shareholdings which can be such a frustration to takeover activity.

Nor is change confined to Germany. France has (partially) shaken up its banking sector. Not that long ago a merger between the retailers Carrefour and Promodès would have been thought unthinkable. Now it is a fact. In theory at least there is scarcely a company in the CAC40 index which can believe itself bid-proof. France and Germany have put big bits of their defence companies together. Pharmaceuticals and chemicals are in the throes of change, albeit as part of a global shake-up. In the seach for global capital, continental European countries are increasingly opening their capital bases.

Nor should the technology impact be under-rated. On some estimates, Europe's knowledge-based economy is at least two-thirds the size of that of the US. Europe might have been slow out of the stocks when it comes to e-commerce, but it is making an effort to catch up.The only snag, as in the US, is whether the huge investor appetite for internet-related stocks is based on a once-in-a-lifetime innovation-driven change in the economy or an all-too-familiar bubble. Technology or tulip - the jury is still out.

The euro has had an impact on the supply side reforms. The development of the euro-denominated bond market has helped finance some of the deals which are changing the corporate landscape.

If international investors start to accept the idea that the euro-zone's big economies are capable of producing sustainable growth on the back of supply side reform and fiscal easing (as the Maastricht effect unwinds) then the euro may recover.

The snag is the ECB. Its stance over the last 12 months can best be seen as a benign neglect of the euro. However helpful export orientated sectors may have found that, it will no longer do.

The US Federal Reserve will be raising interest rates again soon, maybe as soon as the coming week. British rates have hardly peaked. With growth picking up and much of Europe looking forward to tax cuts - 20bn euros in France in 2001-03, for example - the ECB should be looking very hard at raising rates.

The temptation will be to argue that growth should be given a chance. But some of Europe's smaller economies are already running with the wrong policy mix. International investors are hardly likely to make the euro the currency of choice if they see the entire eurozone with a mixture of strong growth and loose fiscal and monetary policy.

This week the ECB council meets in Frankfurt. It could do worse than to signal that its members have learnt a trick or two from the Bundesbank. Now, there was an institution with a hawk's eye for inflation.