2006 was marked by significant divergence between the Eurozone and United States in both economic growth and interest rate direction. While US GDP growth dropped markedly from a high of 5.6% in Q1 of 2006 to 2.0% in Q3, Eurozone economic performance headed in the opposite direction rising steadily from 2.2% at the start of the year to reach 2.7% by Q3.
In fact, Euro-zone growth exceeded US GDP growth on a quarterly basis for the first time in four years. The story was similar with respect to monetary policy. After 18 consecutive rate hikes, the Fed finally paused in August keeping US short term rates on hold for the past 6 months. The ECB on the other hand has remained resolutely hawkish, raising rates consistently throughout the year from 2.25% to 3.50%. The net effect of these divergent monetary policies was the compression in interest rate differentials between the euro and dollar from a 225 basis point spread at the start of the year to 175 basis points by the end of 2006.
Can European growth and interest rate policies continued to decouple from US in 2007? The latest data suggests that could indeed be the case. Despite the significant appreciation in the currency, the European export sector has shown remarkable resiliency as the region’s Trade Balance registered a better than expected surplus of 2.4 Billion euro in October.
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