COMMENT
BILLJAMIESON
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Executive Editor of The Scotsman
Why has the euro not sunk? By all conventional measures the euro is obviously over-valued. So what’s keeping it up?
T
here was a time, not all that long ago, when countries with debt and deficit problems or economic contraction (or both) experienced a fall in their exchange rate. This worked to make exports more attractively priced, encourage growth, reduce unemployment and boost tax revenues. The risk, of course, was inflation. But interest rates were raised to keep the lid on domestic demand: contradictory policies, it would seem, but a combination that worked to buy time for structural reforms to improve productivity and competitiveness. Economies muddled through. Today the eurozone is wracked with recurring sovereign debt problems, austerity programmes, persistent recession and chronically high unemployment. By all measures, the euro currency should fall. Indeed, an enduring mystery for some is why the euro has not collapsed long before now. If you are exporting into the eurozone, an orthodox currency devaluation would not be good news, working to raise the cost of imported product to local buyers while improving the price competitiveness of eurozone exports. But it could prove a price worth paying if the end result is a stabilisation of eurozone debt and deficits and improvement in the underlying economies, boosting confidence and investment. So why has the euro not sunk long before now? Looking at the big picture, the problem is that the United States has been pursuing, in effect, a policy of aggressive devaluation. It has allowed its budget deficit and debt to let rip. It has resorted to central bank monetary easing. And it has slashed interest rates on its sovereign bonds. There’s not much of a case, on this perspective, to buy the dollar at all. But the alternatives (in paper currency) are no better. The result, from a euro perspective, 6 Industry Europe
is that the dollar is a difficult currency to be weak against: the euro looks stronger than its fundamentals would merit because other countries are also, through QE, writing an assisted suicide prescription for their own currencies. Little wonder gold has had such a run. Within the eurozone itself, there is, of course, strenuous resistance from Germany, its economically most powerful member, to tolerate a devaluation against other currencies that would work to raise the cost of imported raw materials and thus inflation. Germany has never been in much of a mood to help weaker members of the eurozone struggling with an exchange rate that is far too high for their domestic economies now mired in recession – their fault for running huge welfare programmes without the economic wherewithal to finance them. Thus the euro crisis merry-go-round continues: weak eurozone economies cannot recover, their debt and deficit problems persist, and yet more austerity measures are embarked upon – aggravating the very problem they are supposed to rectify.
Pain in Spain Alarm bells have once again begun to ring across the eurozone. This is because the massive offer by the European Central Bank of more than €1 trillion of cheap money to commercial banks to enable them to buy the bonds of their stricken national governments cannot of itself lift economies out of recession. Spain is a classic example. Its descent into recession has meant that the 2011 budget deficit hit 8.5 per cent of GDP against the 6 per cent target, rendering the planned 2012 deficit of 4.4 per cent in the words of HSBC economist Janet Henry, “completely unachievable.” The new compromise target of 5.3 per cent looks barely
less ambitious given its reliance on curbing the 17 autonomous regional governments. The result is an absolute mess. It does no favours for German exporters unable to sell their Audis to their crisis-stricken euro neighbours, while there are few independent buyers of Spanish government debt other than of course the commercial banks artificially puffed up with that cheap 1 per cent LTRO money from the ECB. Simple solution? Spain applies to the EU for a bail-out. Unfortunately, the bail-out kitty is just not big enough to meet Spanish government needs and Germany – already alarmed at the bail-outs for Greece, Portugal and Ireland – would find calls to expand the eurozone bail-out fund even further to meet the needs of Spain intolerable. By any conventional measure, the euro should by now be much lower than it is. But here is the greatest mystery of all: eurozone prime ministers, finance ministers and EU policymakers are determined to defend the euro to the last ditch. It is, in their view, the single greatest construct in the drive to ‘ever closer union’ – the overriding purpose of the European project. An unravelling of the single currency is politically unthinkable – even though it is continued membership of the euro that is deepening the crisis across Spain, Portugal, Italy and Ireland. Little wonder that some commentators have reached back to the collapse of the Roman Empire in their search for parallels. But Rome did not ‘collapse’ in the sense we understand today. In fact, the historical analogy may prove even more depressing: Rome did not so much collapse as suffer a withering loss of power that extended for generations before the final overthrow of the puppet emperor Romulus Augustus in 476. By then, the power and prestige of the Eternal City had been utterly hollowed out. There may be worse parallels, but not many. n
