Tuesday, May 08, 2012

Euro: everybody out!

The rather tactless comments by newly elected Francois Hollande about the UK are not an auspicious beginning to the new relationship between London and Paris at a time when the pressure on the Euro is reaching another crisis.

The likely inability of Greece to form a new government without a further election, and the substantial chance that even a new election will not result in a stable government anyway, probably puts paid to Greek membership of the single currency.

Now the Euro faces the moment of truth. The German response to Hollande's political posturing: "No changes, no renegotiation" is going to create real problems. Either they are serious, in which case the lack of flexibility bodes very badly for the Paris-Berlin axis, or they are not, in which case the pressure on the northern tier members, such as Estonia- which has already had to double its national debt in order to subscribe capital to the rescue funds- Finland and the Netherlands, will increase sharply.

Either way, we are now finally seeing the crisis impacting on the value of the single currency in the global markets. Up until now, the Euro has risen against Sterling and the US Dollar. That is a very serious problem. A falling currency helps the exporters, such as Germany, and indeed Spain and Greece, since their goods (or tourism) becomes a lot cheaper. Yet it also increases pressure on the importers, since energy prices and goods in Euros bought from other members of the Eurozone will tend to rise in price: inflation will therefore increase sharply at the periphery.

Several commentators have been pleading for Germany to allow a higher rate of internal inflation, in order to alleviate the break up pressure on the Euro. If, however the periphery faces inflation higher than Germany  - despite the deep austerity policies in Spain, Italy and the rest, then the single currency is toast. It will not be simply a case of a Greek exit, but of a more or less substantial breakdown.

Some sub-zones, Estonia-Finland, Austria-Slovakia-Slovenia will probably hang together, perhaps even continuing a joint currency union with Germany, but with pressure mounting on the Netherlands, and of course France, it is increasingly hard to see that the larger economies: Germany, Italy, France and Spain can stay in the same currency bloc without the radical changes that, so far, the Germans refuse to contemplate. 

Interesting times    

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