European liquidity worries.

Senior European Central Bank strategists say the ECB has entered a several-month discussion period over monetary policy with the number one question being, what to do about the strong liquidity growth in the euro area? For some time, the institution had accepted the argument that the strong liquidity growth was due mainly to portfolio shifts and thus could be ignored. Not any more as the growth of monetary aggregates continues to move upwards.

This has caused the central bank to split into two camps. A sizeable minority of ECB members argues that the so-called "second pillar" of the ECB's charter--management of monetary aggregates--will lose all credibility unless the central bank eventually responds by tightening. A majority of members argue that if the institution changes policy based merely on some theory, and not on actual inflationary data, the institution risks losing even greater credibility.

On a related front, a small minority of ECB members have begun privately to question whether perhaps some dollar devaluation would not be that bad for the euro area as a whole. Exports are relatively strong and domestic demand for investment is weak. As one policymaker put it, "I'm not ready to say this publicly, but if the ECB needs an exit strategy from this huge buildup of liquidity, perhaps we should go the exchange rate route rather than raise interest rates."