This chapter looks at the strong global economic recovery which took place in mid-2004, which accelerated world trade growth to historically high rates—a special advantage to European nations who all rely heavily for their economic well-being on international trade. With improved trade opportunities, even the struggling German economy began to show signs of life. The Eurozone, however, had economic and financial vulnerability. A source of instability inherent to monetary unity was vividly manifest during the crisis of the European Exchange Rate Mechanism (ERM) in the early 1990s. A longer-term problem was the Eurozone's banks. Ultimately, the story of the next three years—between mid-2004 and mid-2007—revolves around a contest between the forces of “great moderation” and “irrational exuberance.” In the Eurozone, as member states benefited from an improving global economy, a belief in the European Central Bank's (ECB) distinctive ability to maintain stability reinforced the narrative of great moderation.
The Great Moderation and the Relationship between Output Growth and Its Volatility
