Only the initial currency reaction to the EU/IMF bank and debt rescue plan was as ecstatic for the euro as it was for the equities. The united currency closed on Friday in New York at 1.2733. The euro opened at 1.2820-70 in Sydney on Monday and shot to 1.3092 in London. However, by 4:00 pm in NY it had fallen back to 1.2790. The retreat continued in Asia and then Europe on Tuesday where it touched 1.2665 well below the Friday's New York close.

Very different were the equity responses around the world on Monday. In New York, the Dow closed up 3.9%, the NASDAQ 4.81%. In Europe the FTSE gained 5.16%, the DAX 5.3% and the CAC 40 9.66%. Asia was modest by comparison, the Nikkei rose 1.6%, the Hang Seng 2.54% and Shanghai composite only 0.39%. By any standards, the relief rally was historic.

The currency doubts stem from the ECB agreement to purchase distressed sovereign debt. This is direct monetization of deficits and debt. In principle it is no different from the US Federal Reserve program announced last March 18th that precipitated the biggest fall in the dollar against the euro in a decade. The EU

and the ECB may promise sterilization but the markets will trade on intent and the intentions of the EU, the European governments and their instructions to the ECB are clear. Inflation is once again a legitimate tool of fiscal policy.

The politicization of the ECB was inevitable and a foregone conclusion from the beginning of the Greek crisis. This is how I phrased it in my January 19th and February 8th Market Directions columns.

The most successful central bank of the past decade will now fall to earth. The ECB has been able to make disciplined monetary policy because the Stability and Growth Pact has limited the inflationary tendencies of the EMU governments. That restriction is now gone; the euro can only suffer in consequence.

In two months, the current European sovereign debt crisis has eliminated half of that [euro] gain. But unlike the dollar panic ascendancy of last year, which was always destined to end, the European change is structural. The debt amassed by the EMU members will undermine the strict anti-inflation policies of the ECB for many years. The bulwark of the Stability and Growth Pact's debt and deficit limits has been breached. The odds are very much against it being repaired. The necessary financial rescue of Greece and perhaps others will inevitably restrict the central bank's freedom of action. Politics has entered world of the ECB and nothing in European monetary or inflation policy will be the same again.

Joseph Trevisani

Chief Market Analyst

FX Solutions