Markets glad to see the back of controversial minister

THE financial markets were in no doubt about how to react to the resignation of the German finance minister, Mr Oskar Lafontaine. It was a case of "Oskar Bravo" as the euro surged immediately the news was announced, while the price of European government bonds also rose sharply. Traders and investors would normally have been most perturbed by the sudden departure of such a senior German government figure, but - to put it bluntly - they are glad to see the back of the controversial Mr Lafontaine.

So why did the markets cheer? The most immediate reason is that the German finance minister had been an outspoken advocate of lower European interest rates. Because the European Central Bank (ECB) did not want to be seen to be politically bullied into cutting interest rates, Mr Lafontaine's vocal approach was widely seen as a block to a further reduction in borrowing rates. Now he is gone, the logic goes, the ECB may ironically feel freer to reduce interest rates to boost the flagging French and German economies.

Things may not be quite that simple - the ECB may still wait for further evidence of economic decline before moving - but the hope of lower interest rates sent Government bond prices higher. It also boosted the value of the euro; normally lower interest rates might detract from a currency's attraction but, in the case of the euro, investors reckon this may be outweighed by the boost to economic activity and confidence which lower rates could engender.

Much the same happened to the US dollar last year, when cuts in US Federal Reserve Board interest rates boosted the currency.

While the interest rate factor was the main reason for the initial market welcome, the departure of Mr Lafontaine also has longer-term implications for the euro zone. He was the champion of the revival of interventionist government economy policy, a reversal of the international trend in recent years towards free markets and privatisation. It was he, after all, who championed the unpopular - and economically questionable - idea of setting exchange rate currency zones for the euro, the US dollar and the yen. The US government hated the idea and Mr Lafontaine's departure will be quietly welcomed across the Atlantic. The idea of currency target zones is now likely to be quietly buried and the German government's attitude to his deeply unpopular business tax measures at home will be interesting.

Mr Lafontaine's proposals for tax harmonisation - or co-ordination - across Europe were also controversial and strongly opposed by Ireland and Britain.

Now he is gone, the tensions around the euro zone policymaking tables may ease. But whether Europe's politicians and central bankers can now chart a course towards a healthy euro zone economy and a strong currency remains to be seen.