International -- Finance: Currencies
Everybody's Flocking to the Euro (int'l edition)
Troubled nations once turned to the dollar. Now there's a rival
Once upon a time, most countries grabbed for the dollar as a crutch when chronic high inflation and monetary instability threatened their embattled economies. These days, though, the euro is becoming the prop of choice in Eastern Europe and Africa. Upwards of 30 countries, from the Cape Verde Islands to Estonia, are wholly or partially euro-izing, rather than dollarizing, their economies.
By pegging their currencies to the euro, these countries aim to import sound monetary policies, tame local inflation, attract foreign investors, and rebuild a healthy financial base with lower interest rates. And because euro bank notes won't be available until 2002, some are encouraging their citizens to use those of the euro's components, such as the German mark. There is even talk of using the Portuguese escudo to kick-start East Timor's war-ravaged economy.MOTIVATION. Why the euro rather than the dollar? Euro-izing countries all have close economic links with the European Union. Besides, the euro zone has an inflation rate of just 1.2% and short-term interest rates of just 3%, even after the Nov. 4 hike, both of which are lower than in the U.S. That sounds attractive to the EU's neighbors--especially those in the throes of the wrenching transition from communism to free markets. "We wanted to create a safe monetary environment," says Bozidar Gazivoda, chairman of the Monetary Council of Montenegro, which has declared the mark legal tender alongside the nearly worthless Yugoslav dinar.
Already, Kosovo's economy has been fully euro-ized since Sept. 4. Cyprus, Macedonia, and a number of former French and Portuguese colonies in Africa have pegged their currencies directly to the euro. Still others, such as Estonia, Bosnia, and Bulgaria, have established boards to keep their currencies in lockstep with the euro.
Obviously, the 12 countries currently negotiating to join the EU have the strongest motives to adopt the euro. The Czech Republic, which already uses the euro as anchor of its managed float, is one of several candidates mulling over the idea of introducing the euro even before the country qualifies for the EU's economic and monetary union and a seat on the board of the European Central Bank. "It makes sense for them to introduce the euro as soon as they can," says Michael Emerson, senior research fellow at the Center for European Policy Studies in Brussels. "Euro-ization gives them a solid currency and much greater credibility."
But those advantages come at a high price. For starters, countries lose control of their monetary policies. They can't, for example, themselves hike interest rates to cool superheated economies, as fast-growing euro zone members such as Spain or Ireland might otherwise have wished to do recently. Nor can they so easily inject liquidity into their economies to alleviate credit crunches or banking crises. Furthermore, banks in a euro-ized economy are highly vulnerable to mood swings among investors, who can easily switch their funds to banks in the euro zone proper whenever they feel nervous.DAMAGE CONTROL. What's more, unless governments are willing to risk sparking a political backlash by introducing far-reaching structural reforms, simply euro-izing their economies will not necessarily spur growth. Consider Bulgaria. Economists fret that it has done too little to restructure its economy since establishing a currency board in mid-1997. Such problems have alarmed the EU, which warned in a recent report that "attempts at too early adoption of the euro could be highly damaging and ought to be discouraged."
Meanwhile, the ECB is worried that euro-ization could complicate its already tough task of forging a monetary policy across the existing 11-nation zone. "Because a large volume of euro would be circulating outside the euro zone, it would make it more difficult to assess the impact that changes on monetary policy would have on the financial system and exchange rates," says one ECB economist.
Maybe so, but the popularity of the euro seems destined to grow. And many of Europe's boosterish politicians will be very happy to see another small bite taken out of the global dominance of the greenback.By David Fairlamb in FrankfurtReturn to top