Hell Bent On EurocurrencyBill Javetski
All right, maybe it wasn't as exciting as star-gazing at the Cannes Film Festival. But residents of that sunny French resort city turned out in droves to gawk at the politicians who gathered for the June 26-27 European Union summit. Tops on the agenda: taking concrete steps toward a single European currency that would eventually rival the U.S. dollar's reserve-currency status. For the global markets, the process of forging European monetary unity by the end of this decade has played like a thriller as jittery investors try to anticipate the outcome. The next act promises to be even more dramatic.
The reason: The EU's bureaucrats have declared themselves hell-bent on nailing down a monetary union by 1999, whether Europe's economic reality and popular support are ready or not. But the interim moves necessary to achieve the goal risk shattering the dream of European economic unity launched with the Maastricht Treaty's approval in December, 1991.
Already, Brussels has admitted that most EU countries won't be able to reduce their budget deficits and debt levels enough to meet the criteria for monetary union by 1997. And the political travails of British Prime Minister John Major, who is under fierce attack from Euroskeptics in his own party, made unanimity on any high-profile currency initiative impossible at the Cannes summit.
Another speculative wild ride could be in store. If the markets perceive that monetary union will again be botched, traders are likely to bash such currencies as the Spanish peseta, the Portuguese escudo, and the French franc, whose parity with the mark holds the European system of managed exchange rates together. And after the battering that system has suffered in the past three years, another crisis could prove one too many.
Survey after survey shows that Europe's business titans are behind the concept of monetary union. The last thing they want is a period of sustained currency turmoil that would cripple investment planning and trade. A single currency could, in theory, erase exchange-rate risk and make cross-border investments immeasurably easier. Ultimately, Europeans hope the new money will rival the dollar as a global reserve currency, increasing European economic clout worldwide. The European Commission, meanwhile, has estimated that a single currency could save the equivalent of half a percent of total GDP in transaction costs alone.
Still, popular support for a European money seems scant. That's why bureaucrats, putting the cart before the horse, want to choose a name for the new unit at the next EU summit in Madrid in December. That, they hope, will help ordinary folks warm up to the idea of trading their cherished national monies for an uncertain Eurocurrency. Unlike the dismantling of trade barriers that created Europe's single market, monetary union won't bring any immediate benefits to citizens--such as making other members' products cheaper or eliminating passports.
TRADE TURMOIL. In fact, instead of shoring up the unified market, the struggle to form a single currency threatens to undermine it. For example, some European politicians argue that if a small-scale, initial monetary union is formed among Germany, France, and the Benelux countries--excluding fiscally troubled nations such as Italy and Spain--trade barriers may be needed to protect the core group against the outsiders' less expensive goods.
Bureaucrats vow to work out a resolution, but a two-tier Europe risks widening gaps among its diverse economies. At the Cannes summit, new French President Jacques Chirac complained to Italian Prime Minister Lamberto Dini that the lira's 60% slide against the mark since 1992 has ruined France's business of exporting calves to Italy.
Moreover, Europe's leaders don't seem to have learned from their mistakes of three years ago, when they touched off a major money crisis. In 1992, clashes between finance ministers and central bankers over German interest rates and the runup to a single currency drove Britain and Italy out of Europe's system of managed exchange rates. This time, EU bosses want to name candidates for monetary union by late 1997, then wait a year before setting their exchange rates against the mark, the anchor of the union.
To many central bankers and market watchers, that will create a foreign-exchange casino. "Markets won't only be speculating on which countries will be able to qualify but also on the rates of exchange," says Lawrence E. Hatheway, an international economist at Union Bank of Switzerland in Zurich. The band within which currencies are supposed to trade vis-a-vis the mark has already been widened to accommodate volatility in weaker currencies. It's doubtful how much more the band could be stretched.
EU leaders have been banking on an economic upturn to ease the way. But Europe's recovery has been uneven at best, and that will make it tough for countries to keep squeezing budgets in order to align themselves with the German Bundesbank's high-interest-rate, low-inflation monetary policy.
France is the biggest question mark. Even as Chirac welcomed EU leaders to Cannes, his Prime Minister, Alain Juppe, was sending mixed economic signals. Juppe had just put in motion a new stimulus package aimed at easing France's 12% unemployment rate while raising taxes to cut the nation's growing budget deficit, now 5.5% of gross domestic product.
French officials insist there's no contradiction between those goals. But with higher taxes squelching consumer spending and government revenues weakening, things look bleak. Some French officials admit that not even an economic boom will ease France's structural deficit and unemployment woes. That means France may not be ready to meet the single-currency criterion of reducing its budget deficit to 3% of GDP by 1997.
Even in stable Germany, there are obstacles to a Eurocurrency. Bundesbank President Hans Tietmeyer dismissed the European Commission plan to give individuals a new single currency only after businesses and banks have used it for large transactions for three years as "scarcely suitable" to promote the new unit's credibility. The Buba's worry, echoed by the Bonn government, is that the costs of carrying two currencies would be too onerous for smaller banks.
Nevertheless, EU bureaucrats at Cannes reiterated their commitment to push ahead. They are convinced that only monetary union will put an end to Europe's currency volatility. "Without a single currency," warns Yves-Thibault de Silguy, European commissioner for monetary affairs, "the single market is in serious danger."
Brussels' all-out political push is now backed by formidable institutional and legal momentum behind monetary union. Brussels has installed a bureaucracy to promote union and pave the way for its technical implementation. "There are people who are thinking, doing, working on nothing but monetary union," says Martin Hufner, chief economist at Munich's Bayerische Vereinsbank. "This becomes a self-fulfilling process."
Even if Hufner is right and the EU can pull off a single currency without starting another monetary meltdown, the Eurocurrency may not have the clout its creators have in mind. A European central bank is unlikely to have the inflation-fighting credibility of Europe's de facto central bank, the Bundesbank. Instead, its policy could be skewed by the membership of economies weaker than Germany's.
As a result, the closer the EU gets to meeting its calendar, the more investors in hard currencies such as the mark are likely to flee to the Swiss franc and other safe havens. And if they didn't know it already, the EU's leaders are about to find out that it's one thing to impress tourists in Cannes and quite another to win over the markets. Stay tuned for Money Wars II.
The Perilous Path to A Single Currency
CURRENCY CHAOS: If a single currency is delayed indefinitely, traders will attack weak currencies such as the escudo, the peseta, and the franc.
DIVIDED MARKET: Brussels could create a two-tier Europe if it names a "hard core" of candidates for early monetary union. That could lead to trade barriers as the core group fends off cheaper imports.
POLITICS AS USUAL: Key EU countries such as France, Italy, and Spain are miles away from meeting the debt and budget requirements for currency union. Squeezing spending could create political backlash.
NO MORE BUBA: Even if the EU achieves monetary union, the European Central Bank won't have the inflation-fighting credibility of the German Bundesbank. Investors might flee to safe-haven currencies.