A Pyrrhic victory for the ECB

Pyrrhic victory is a term that is used when you win the battle but lose the war. In this case, the battle as defined by the ECB is maintaining price stability at or just below 2 percent. This battle – as happily stated by the President of the ECB, Jean-Claude Trichet in a recent press conference – has been won in exemplary fashion with average yearly inflation in the EMU being 1.97 percent over the first 12 years of the euro. However, what is the cost of achieving this target? 

The cost in the EMU is divergent economies. Diverging short term interest rates (as noted here in my last blog) are contributing to a further divergence of economies, with some national banking systems already on life support.

It is becoming increasingly likely that economies within the EMU will continue at least in the short term to diverge and not converge as predicted by the proponents of monetary union. Consequently, we expect this divergence will drive the national politics of the member countries in opposite directions. The wealthier presumably shifting to the right politically, and the poorer to the left. One could also reasonably expect that in this environment, nationalistic sentiment will rapidly grow.  This is likely to bring the euro experiment into extreme focus, and economically divergent economic and political member states would threaten its survival.

The ECB has won the battle but is it in danger of losing the war?