Higher European Interest Rates Lower the Dollar -- Don't European Leaders Know This?

Reuters did not think it was worth commenting when the Jose Manuel Barroso, the European Commission President, both complained about the weak dollar and defended the rise in the interest rates by the European Central Bank. This is kind of bizarre. Higher interest rates presumably were intended to fight inflation by slowing growth in the European economies, thereby throwing workers out of work and decreasing their bargaining power. One of the main ways in which higher interest rates slow growth is by raising the value of the euro against the dollar and other currencies. This makes U.S. goods cheaper in Europe, causing Europeans to buy more imports rather than domestically produced goods (this also lowers prices, another way to reduce inflationary pressure). The lower dollar also causes raises the price of European exports, causing people in the United States to buy less European exports. Presumably Mr. Barroso understands such basic economics, but his position seems to be contradictory. This would be comparable to a political leader calling for tax cuts but then complaining about the loss of tax revenue. It would be appropriate to point out such an extraordinary inconsistency to readers.

--Dean Baker