Why The Mighty Mark Is A Sitting DuckRudi Dornbusch
This will be the year when the mighty German mark comes under attack. Making big money by shorting the German currency will be like shooting fish in a barrel.
Forecasts for European growth in 1994 aren't optimistic--moderate growth of 1% at the very best. But that's an average, and it's misleading. Paradoxically, those countries that devalued because they couldn't stand the heat of the tough German monetary policy will do well. The rest are on the ropes, especially Germany itself.
In the late summer of 1992, speculators took on the soft European currencies and pounded them until the links with the German currency gave way. Major devaluations--28% for Spain, 22% for Italy, and 16% for Britain--were the result. Far from doing irreparable damage to the financial reputations of the devaluing countries, the speculators did them a huge favor: Along with a major gain in competitiveness, interest rates came down sharply. In an otherwise stagnant Europe, these countries' export sectors are paragons of growth and prosperity.
So the soft-currency countries are the winners. The countries that were on the currency speculators' hit list in 1992 have now turned into strong prospects for growth, while those with the toughest central banks and hardest currencies are heading for another recession. France and Germany may enjoy taking pride in their undefeated currencies, but their economies are failing to take off. Budget problems, a continuing obsession with tight money, and a devastating loss of competitiveness keep them grounded. In the face of ever-rising unemployment, already 12% in France and headed upward, business confidence remains stagnant or worse.
FEW HOURS. Germany's problems go beyond those of an ordinary downturn. It is not just that the federal budget is tightening even in the midst of a recession. Far worse is the problem of restructuring an overweight and overpaid industrial sector. With the average factory worker's pay and benefits at $24 an hour--compared with $15 in the U.S.--German industry is uncompetitive. Not only are wages too high but the Germans work fewer hours than those in ether major industrial powers. Without overtime or multiple shifts, even machinery there gets more time off. The early '80s cachet of masterful engineering and unquestionable quality is no longer enough. Quality has become another commodity--even the Americans can do it. Moreover, one can buy two American cars for the price of a similar German one. Even if the first one breaks down, forget it and use the second one.
For a time, the crisis in German industry was masked by a series of surprises that kept order books filled. First, up to 1985, the grossly overvalued dollar allowed Europe to sell virtually anything, no questions asked. Then came the boomlet of Europe '92--with its great expectations, confidence, and talk of the advent of a European century. Even before the bubble burst, on top of an already overemployed European economy, came German unification. Thanks to a $100 billion-a-year west German fiscal expansion to bring east Germany into the modern economic world, demand for German goods skyrocketed.
SINKING TOGETHER. Today, those booms are history. The dollar has collapsed, and U.S. companies have restructured to compete. Europe is in recession, German unification by now is disillusioning and troublesome--certainly no consumer spree. In addition, those competitive devaluations of the soft-currency countries have cut into German exports and rendered the German domestic market vulnerable to foreign competitors. Little surprise, then, that German companies have hastened to downsize--that forbidding American euphemism for payroll reduction. Hitherto, eliminating jobs has been taboo in Germany. Now, there is a rush to press forward with restructuring, and scarcely a day passes without news of a major cutback: 10,000 workers here, 20,000 there. Only the unemployment office works overtime.
For Germany and those countries with currencies linked to the mark--France, the Netherlands, Belgium, and Austria--1994 will indeed be the Year of the Dog. Unemployment will rise, confidence will fall; a double-dip recession is the most likely course. The problem is worsened by a monetary policy caught between the risk of recession and a collapse of the currency. To keep the mark from plunging against the dollar, or at least to keep it treading water, interest rates can't come down. But the longer they stay high, the deeper the drop in confidence.
German interest rates must come down a lot, sooner or later. U.S. interest rates are on the rise as the economy moves toward full employment. As the differential between the two rates narrows, the mark will become the currency speculators' next target. Selling marks short becomes the gamble of the year. The good news is this: The sooner the speculators make their killing, as in 1992, the sooner Germany and Europe can turn to easy money and growth. That seems sure to happen in 1994, so growth can follow in 1995.