The Europeans Figure Out How to Stop the Appreciation of the Euro

Edward Hugh refers us to:

Bloomberg.com: Germany: The German Finance Ministry declined to comment on a magazine report that discussions took place last week between Finance Minister Hans Eichel, Bundesbank President Axel Weber and economists on a possible failure of European Monetary Union.

Stern magazine said in a pre-released article today that the group discussed a scenario for the single currency's collapse as differences in inflation and growth rates within the union grow. An internal ministry document formed the basis of discussions, Stern said.

The Finance Ministry ``doesn't comment on internal papers or meetings,'' said spokeswoman Sandra Hildebrandt in a telephone interview today. ``The euro is a success story.''

Inflation and growth differentials ``can lead to a meltdown in a couple of years, the collapse of the euro,'' the German magazine quoted Joachim Fels, chief fixed-income economist at Morgan Stanley, who took part in the meeting, as saying.

"The gap risks widening, so that the danger of an adjustment crisis is growing bigger,'' Stern quoted the Finance Ministry document as saying. Germany's lower house of parliament has commissioned a legal opinion on a possible reversal of EMU and the right of one of its members to leave the currency, Stern said.

The introduction of the euro has cost Germany its former advantage of lower financing costs, which partially explains why it's lagging behind the other euro members, the ministry said in the report, according to Stern.

Comments

[Matt]

It's politically unacceptable for the euro to be worth less than a dollar, and it's economically unacceptable for the euro to be worth more than a dollar. The solution (obviously) is to replace the euro with the dollar.

[anne]

So much for another reserve currency. I am thoroughly surprised both that the possibility of giving over the Euro would be discussed and that it would be discussed and leaked when the European Constitution was to be voted on amid considerable pessimism for passage in France and the Netherlands.

[Jason]

Unless the dollar has its own crisis, which appears imminent. Why would Europe want to jump in on a currency that appears to be ready to take a reasonably large hit--and maybe more than one hit--within the next several years?

[Ken Houghton]

Which will, alas, still not help the Germans regain their competitive advantage in financing. You know, like the one the Japanese have that is making their economy so robust.

[GAB]

The Euro was unsustainable from Day 1. There are too many factors pulling the different countries in a nonconvergent direction. The attempt at limiting deficits has been a farce, mostly because of Germany and France. Trying to converge tax rates is impossible. Fiscal policies are too different. The Euro will not survive.

[edward]

I think the fact that this meeting leaked is a reflection of the political crisis that is now engulfing Europe. The same edition of Stern has the results of a survey which suggests that 56% of the German voters would prefer to have the deutschmark back (not the dollar, sorry :)). What all this is drawing attention to very strongly is the fact that all those dollar decline stories may have got it wrong. The euro will not be rising any time soon. And the common currency, whilst not about to disappear immediately, will probably struggle along from one crisis to another, which means it will not be the Chinese, but global investors fleeing risk, who will be buying the US treasury bonds. Still I suppose it is something that you will be diversifying your creditors.

[Barkley Rosser]

Hmmm. Methinks this jumping on the "euro is dead" bandwagon is a bit premature. Clearly between the leaking of this memo and the negative vote in France (and predicted one in the Netherlands) the euro is going to go down some more relative to the dollar. But the US is the country with the massive current account deficit and whatever its status relative to the euro, which in Sept. 2000 was 80 cents, it is clearly still overvalued relative to most other currencies, and a revaluation/appreciation by Asian currencies, especially the yuan/renmimbi looks likely.
One should not make too much about these internal divergences in Europe. After all, we have them here in the US all the time. When oil prices rise, oil patch states do well and the rest do not, with the reverse happening when they decline. We do have greater labor mobility within the US than they have in the Eurozone, but even going back to the national currencies there will not remove such discrepancies. Northern Britain might well want a devaluation against southern England, and parts of France, not to mention Italy, Spain, and Germany, would probably still like internal "currency readjustments" even if the euro were to disappear (especially Germany).
Germany's low financing was due to its being the anchor of a nearly fixed exchange rate system, in which its was the strongest currency. Now they want to devalue. I forecast: Germany could leave the euro and devalue, but the gains from reduced transactions costs and exchange rate risk would be so great as to keep the others in and the euro continuing. It is not about to melt down. People like Milton Friedman and Martin Feldstein have been making themselves look silly for more than a decade now with such predictions since the tme of the Maastricht Treaty.

[anne]

Edward

Agreed, finally.

[anne]

http://flagship5.vanguard.com/VGApp/hnw/FundsByName

Vanguard Returns
12/31/04 to 5/31/05

S&P Index is -1.0
Large Cap Growth Index is -2.6
Large Cap Value Index is 0.3

Mid Cap Index is -0.6

Small Cap Index is -2.6
Small Cap Value Index is -2.1

Europe Index is -1.7
Pacific Index is -4.5

Energy is 13.1
Health Care is 5.4
REIT Index is 1.2

High Yield Corporate Bond Fund is -0.4
Long Term Corporate Bond Fund is 5.9

[anne]

http://flagship2.vanguard.com/VGApp/hnw/FundsVIPERByName

Sector Indexes
12/31/04 - 5/31/05

Energy 13.8
Financials -3.7
Health Care 4.0
Info Tech -4.4
Materials -6.7
REITs 1.3
Telecoms -4.9
Utilities 8.3

[Jean-Philippe Stijns]

"The Euro was unsustainable from Day 1."

I'd love to have time to go back and read what was written in the United States and elsewhere (particularly in the UK) at the time of the introduction of the USD...

[aeolius]

I for one was glad to see that poorly cobbled - together EU "constitution" turned down. At 100 pages long it immediately would impose a further rigidity on the EU.
But the expectation of this No vote and uncertainly certainly had its role in the drop of the EU.

But the Euro was cast into the role of the "other woman", whose attractiveness unfortunately was only in comparison to the dollar.
Bush, as ever putting political advantage over national need, has guarenteed that China would lose face in a re-valuation

There is an idea which keeps rearing its head and then is poo-pooed. That is the basket of currencies. It is perhaps the only answer to allow a back off of Bush and China It does
seems to be popping up more frequently. Is this the start of a spin campaign?
(If there was a move to use the Basket then the drop of the Euro would make more sense.)

Morris Goldstein and Nicholas Lardy in a recent ATimes article http://www.atimes.com/atimes/China/GE27Ad02.html
suggest that China may revalue and then float against a basket of currencies.

I think that this would look as loose of face for China and the reverse makes more sense.Using say SDR as a "neutral" gradual revaluation could occur. It is hard to become nationalistic about the dollar/SDR or Yuan/SDR exchange rate.

[pat]

What do people think about the title of this entry? Is Brad suggesting that this "leak" is just a strategic move by the Europeans to get euro lower? Some people in Asia still think that Japan's problem started with the yen appreciation in the 1980s, that Japan has been effectively paying the price for the then US current account deficits. Anyone in Europe believes this?

[anne]

Brad

Though the post title is simply ironic, the effect of the increase in value of the Yen from the time of the Plaza Accord in fall 1985 should be carefully thought about. Then again the increase in value after 1985 of Europe's currencies as well is worth analyzing.

Japan needed to bolster domestic demand as the Yen strengthened, but did not do so. Property and stock prices rose dramatically from 1985, but there was no general price pressure in Japan. When the Bank of Japan began to raise interest rates in January 1990, the economy slowed moderately, there was an immediate bear market in stocks, and property prices stopped rising. The economy slowed a little more, stocks fell more, property prices began to fall. There was not enough domestic demand to spur the economy....

[trotsky]

What have different growth and inflation rates within the eurozone have to do with anything? Anyone compared the economies of New Jersey and Mississippi lately? Or heck, even San Francisco and Imperial counties within Califas?

[anne]

http://www.nytimes.com/2005/06/01/opinion/01wed3.html

The French Non

No political leader in Europe can afford to ignore the resounding rejection of the new European Union constitution by French voters last Sunday. Coming right after a beleaguered Chancellor Gerhard Schröder of Germany was forced to call new elections, and right before the Netherlands is to cast what is likely to be another "no" against the constitution today, the French referendum clearly shows a Europe suffering from an identity crisis.

President Jacques Chirac has necessarily shifted swiftly to damage control, replacing Prime Minister Jean-Pierre Raffarin and bringing his popular political nemesis, Nicolas Sarkozy, back into the government. But shuffling old faces may not assuage the masses. While the European Union itself is in no danger of collapse, damage has been done to the dream of a continent that would continue to deepen and broaden its unity.

Nestled in the explanations for why the French rejected the constitution - resentment of immigrants, concern over swelling unemployment, resistance to Turkey's entry - are two common strands. The first is fear. This includes the fear of losing their 35-hour work week thanks to an onslaught of cheap labor from new member states, the fear of losing the French identity, the fear of "Anglo-Saxon" (read British and American) economic reforms.

The second, equally alarming strand is a loss of common ground between business and political elites and ordinary people: the workers, farmers and poor who cast the majority of "no" votes....

[chris]

the French no vote was a good move for democracy. The citizens are slowing down where le roi wants to go; too bad it doesn't work in the U. S. Le roi would like to repudiate the social security trust fund after spending the money rebuilding the gardens of babylon. I read elsewhere the voters in Europe are voting against centralization of power while in the U. S. we're increasing the power of the Federal govt.

"When the Bank of Japan began to raise interest rates in January 1990, the economy slowed moderately, there was an immediate bear market in stocks, and property prices stopped rising." Or the inflated prices of select aspects of the economy couldn't bear slightly higher interest rates which popped the bubble. I thought this was covered last week in the P K inner Austrian post as we continue down the recent economic history trailblazed by Japan.

Germany has already massively devalued when they joined the euro. Broadly speaking if the dmark was worth about 1.2 to USD1 where one mark bought the most basic cup of joe. Now it's euro 1 to USD1.2 where 1 euro buys the basic cup. Inflate away.

[chris]

And Richard Duncan who said monetarism is dead and suggested a world minimum wage weighs in with "What's Worrying Greenspan?",

"Foreign central banks (although not foreign private sector investors) appear to have an unlimited appetite to buy dollars to prevent their currencies from appreciating so as to protect their countries' trade surpluses. Will they stop acquiring dollars and watch their economies be thrown into recession as their currencies rapidly appreciate just because the Net International Investment Position of the United States has reached a deficit equivalent to 25% of US GDP?

Why would 25% be the threshold that would trigger a change in their behaviour? Why not 75% of US GDP? Or 150%?

When there is only one buyer in the market, vendor-financing will carry on for quite a long time even after the first signs of deterioration in that buyer's financial health have become apparent. And so it is in this case.

If the United States' trading partners, particularly those in Asia pursuing an export-led model of economic growth, stop financing the US current account deficit, the US will import less and their export-dependent economies will be thrown into crisis.

There is a wide-spread misconception that the United States relies on the savings or other countries to finance its current account deficit. This is incorrect.

During recent years, at least, the US current account deficit is financed primarily by money newly created by the central banks of other countries. Newly issued paper money is not the same thing as a county's savings.

The companies that earned money by exporting to the US keep their savings. It is only that they keep them in their domestic currencies after having sold the dollars they earned from exporting to their central bank.

In fact, the banking systems of the export-oriented economies all across Asia are burdened by too much savings. Excess deposits are increasing more quickly than viable lending opportunities and, consequently, interest rates have fallen to historic lows.

Therefore, it is not a matter of the US using up all the rest of the world's savings to fund its deficit. It is a matter of that deficit being financed by the central banks of the United States' trading partners.

And, for their part, Asian central banks, in particular, have consistently demonstrated their ability and willingness to create money in order to finance the US current account deficit. Given that nothing has occurred to call into question their determination to continue doing so, there is no reason to expect that behaviour to change any time in the near future.

What else, then, could be worrying Chairman Greenspan?

He does not seem to be concerned about the loss of jobs in the United States..."

http://www.financeasia.com/Accessories/faPrintStory.cfm?objectID=2B304A6F-9027-7E17-4B3371C8DDCF39AA but found via the prudentbear.com site. Certainly takes the importance of Mr Magoo down a couple of notches. Maybe we should buy telescopes and start to realize how the U. S. is and isn't the center of the economic universe.

[chris]

Now a comment from Bill Fleckenstein at his Daily Rap site. Fleckenstein is more of a trader in different financial markets.

"Feds Say the Darndest Things

Now to share further comments by the aforementioned Richard Fisher (Dallas Fed governator) from an interview on Bubblevision (which were carried on Bloomberg and also relayed by a friend who saw it all). When asked about the U.S. trade deficit, Fisher responded: "Where would the world be if Americans did not live out their proclivity to consume everything that looks good, feels good, tastes good?" I'm told that an incredulous Mark Haines commented: Isn't that like a drunk buying a round for the bar? (I'm not sure what Fisher's rejoinder was.)
And, when asked about the housing bubble, Fisher expressed the hope that it would last a bit longer, at least in Washington D.C., before he had to sell his house and move his family to Texas.

My low opinion of the folks who run the Fed based on the applause meter is no secret, but I think that this particular fellow may be wilder than even his predecessor, Mr. Robert "New-Era" McTeer, or Greenspan himself. Indeed, each new member who comes along seems to be more and more outlandish, witness Bernanke and Fisher. I believe that one of these days, all this Fed incompetence is going to lead to a moonshot in the price of gold. I, for one, plan to be ready."

Add Fisher's name along with Greenspan and Bernankes' on who should be shown the door.

[chris]

I took the title of the post to mean a little jawboning and a couple of no votes brought the value of the euro down, a good thing supposedly for the eurolanders, and that was an easy way to do it. The countries that should be revaluing upward, Pacific rim Asia, aren't. We all have ring side seats watching Bush negotiate with China about that question.

[ahem]

The ramping up of US interest rates was putting pressure on the Euro before the French and Dutch votes. I hope that Europhobia won't lead certain Americans to cheer the Euro's relative forex decline all the way to foreclosure...

[mattew]

Ken writes: "The attempt at limiting deficits has been a farce, mostly because of Germany and France." Are you sure, Ken? While the rules of the Stability Pact have clearly been bended, the deficits of almost all euro-cuntries (with possible exeption of Portugal) arelower than the US-deficit. And much, much lowr than European deficits in the 80s and 90s!

[konrad]

Funnily, the German Telekom announced on that same day that public pay phones were going to accept the old DM and Pfennig coins again (at a rate 1 Euro - 1 DM)

http://www.t-com.de/is-bin/INTERSHOP.enfinity/WFS/TCOM/de_DE/-/EUR/SVCPresentationPipeline-Start;sid=hhE_tsB33r2jsoLXwx41LuFx8T8oYRJJ60Xz4sNTKbmysA==?referer=issite%3a%2f%2fTCOM%2fstorefront%2fhome%2fde_DE%2fpresse%2fpresse-sammelseite%2epage&Page=issite%3a%2f%2fTCOM%2fstorefront%2fhome%2fde_DE%2fpresse%2fpressemitteilungen%2f2005%2f06%2fPM-2005-06-01-01%2epage

Could anyone come up with a good conspiracy theory? - Maybe one day I'll finally get rid of those East German aluminium chips that are still hiding in the preserving jar on top of my bookshelf.

[me]

Let the Euro find it's free-trading level and don't obsess about it so much. Sheesh, you neo-mercantalists...