The recent cut in interest rates among the core economies of Germany and France is arguably one of the most significant European interest rate moves witnessed in many years.
The subsequent immediate flurry of rate cuts from the founding members of the euro has brought into existence complete convergence (with the sole exception of Italy). To all intents and purposes the euro is a reality with short-term interest rates among the euro-11 set at 3 per cent.
As well as achieving virtual full convergence the reduction in the core interest rate from 3.3 per cent to 3 per cent provided an important signal regarding the direction of monetary policy during 1999. There is little doubt but that this cut was effectively the first policy move from the new European Central Bank. This move reflected the fact that recent economic data points to a significant slowdown in the pace of European growth.
The fact that interest rates were reduced points to a shift in stance from European central bankers towards supporting economic growth. It also suggests that central bankers see little threat from inflation. From the Irish viewpoint this easing of policy means that monetary policy is now even more at odds with the needs of the Irish economy. The current boom is likely to be prolonged but inflation is likely to be higher.
For investors it should ensure that Irish financial assets produce a further year of good returns during 1999. The advent of the euro is likely to widen investors horizons towards the stock markets of euroland. However, many Irish investors must be wondering what are the implications for the British equity market. Irish private investors have over many years invested in the London equity market. The twin attractions of listed stocks with familiar household names together with excellent liquidity meant that London was the "home" market for many Irish private investors.
With Britain staying out of the euro, what are the implications for the British stock market? Unlike other European markets, Irish investors will still be faced with currency risk when investing in Britain. However, this has long been the situation and has proved to be only a minor deterrent.
In fact there are reasons for taking the view that the British stock market could provide attractive returns over the medium-term.
A major positive factor is that the government under Tony Blair is committed in principle to bringing sterling into the euro. British big business is also strongly in favour of joining the euro. Therefore, the issue with regard to Britain is when it will join rather than whether it will join.
British short-term interest rates currently stand at 6.75 per cent compared with 3 per cent in Europe. Over time British rates will converge with Europe and therefore the medium-term environment in Britain should be one of declining interest rates. This should be supportive of the British equity market.
At current market levels, British equities generally offer better value than their European counterparts. The table lists a selection of some major British stocks which offer good value. The combination of value, declining interest rates and familiar companies should ensure that the British stock market continues to be a home for a significant portion of Irish investors funds.
