Short-term fluctuations are no basis for judging the new currency, says John Plender
Is Europe’s new single currency a success or a failure? And will economic and monetary union enhance the attractions of the new euro zone as a home for global capital?
In much of the press, the weakness of the single currency since its launch on 1 January has been taken as indicative of a gigantic euro flop. Yet it is not necessary to be aeuro buff to see that this is absurd.
For a start, movements of a new currency over three and a half months tell us nothing about whether it is a success or a failure. The original component currencies were strong before the launch, when Europe’s economic prospects looked better. Since December, prospects in the euro zone have worsened, so the currency has weakened.
While currencies often move in unpredictable ways they are, nonetheless, driven by market forces. There are times when currency weakness is helpful to an economy – as now in continental Europe – and times when currency strength is debilitating, as in Britain today. So to see a currency as a symbol of national – or in the case of the euro, supranational – virility is an economic nonsense.
That said, it certainly is possible to reach some conclusions about EMU on the basis of what has happened since January. The first and most fundamental point concerns Germany’s place in the new monetary union. What has long been seen as Europe’s strongest economy is in trouble. The Germans are having great difficulty living with the pan-European interest rates set by the European Central Bank.
Franco-German fault line
In effect, Germany went into EMU at an uncompetitive rate relative to France, and it is now paying the price. The resignation of Oskar Lafontaine, who tried to bludgeon the ECB into reducing interest rates, was a symptom of this economic reality. EMU has been built on a Franco-German fault line.
That spells trouble ahead, because Germany will seek to extricate itself from its plight. If German unemployment rises to unacceptable levels, the government might even contemplate the unthinkable: a devaluation before the present “irrevocable” linkage between the 11 currencies turns into a genuine single currency.
The second point is more positive. The arrival of the euro has been accompanied by a dramatic surge in bond issuance denominated in euros. The change from 11 separate bond markets with separate currencies to a single bond market in euros has automatically enhanced liquidity. So while investors around the world have been slow to diversify into euros, companies and investment institutions in Europe have jumped at the opportunity to borrow and lend in this newly liquid bond market.
At the same time, the introduction of the euro has encouraged a more active market in corporate control. Realising that the single currency will enhance transparency and increase the pressure for consolidation in sectors such as banking and telecommunications, top executives across Europe are hatching takeover plans.
Corporate restructuring
Hostile bids, hitherto a rarity on the Continent, are suddenly on the increase. This is good news for global and British investors, and for British companies, including property companies, since the ability to borrow and invest in euros increases the available financing options.
For the countries of the euro zone, however, there are caveats. The acceleration in corporate restructuring is clearly desirable, in terms of economic efficiency. But in Europe’s inflexible labour markets, with very high social overheads, it remains to be seen whether takeovers can be used as an effective instrument of capacity reduction and cost reduction. That is what is needed in European retail banking, but the mergers that have taken place so far point to a greater interest in size than shareholder value.
At the other extreme, there is a risk that, where jobs can be reduced without the companies concerned incurring excessive financial penalties, restructuring will become a social nightmare. All the jobs will be lost in the euro zone, while all those created will be outside. In other words, the combination of flexible capital markets with inflexible labour markets could be uniquely disadvantageous.
Nor does takeover activity necessarily serve the interests of industrial logic. Some recent bids smack of the kind of aggressive corporate activity that marked the US and UK capital markets in the late 1980s. Many of the deals ended in tears.
It is these macro-economic and structural features that will dictate success or failure of EMU and the euro. Leave it to the currency dealers to worry about a few months’ gyrations in the foreign exchange markets.
John Plender is a broadcaster and leader writer for the Financial Times.
