ON THE FATE OF THE EURO

TO BE OR NOT TO BE

At this point, it's becoming increasingly clear that the current financial crisis is a global one, cause by a perfect storm of multiple bubbles deflating simultaneously. 

And while it's been assumed by many around the world that the cause has been America's infatuation with sub-prime mortgages, the causes may be much more diverse than thought.

This article in the UK Telegraph is illustrative:

"Those such as German finance minister Peer Steinbruck – who thought the   sub‑prime crisis was just an "American problem" – have had a   rude shock.

The collapse of Hypo Real with €400 billion of liabilities has   made him face the unsettling truth that German banks have played a big part   in this $10 trillion speculative venture undertaken by the whole global   banking industry.

Europeans borrowed vast sums in dollars in the offshore money markets when   dollar credit was cheap. This was leveraged by multiples of 50 or 60 to fund   whatever craze was in fashion – Russia, Brazil, infrastructure.

The credit   crunch has left these banks floundering. They have to pay back a lot of   dollars, yet the underlying assets are crumbling. They are caught in a   self-feeding spiral of "deleveraging". Even those European banks   that stuck to stodgy investments are caught in a vice, since many rely to   some degree on three-month loans for funds.

That market is jammed shut. They   cannot roll-over their loan books. This way lies sudden death, as Hypo   discovered."

The European tool box to deal with this crisis, whatever their origins, is affected by the unique nature of the common currency of the Euro Zone, the Euro:

"There is no EU treasury or debt union to back up the single currency. The   ECB is not allowed to launch bail-outs by EU law. Each country must save its   own skin, yet none has full control of the policy instruments.

Germany has vetoed French and Italian ideas for an EU lifeboat fund. The   former knows exactly where that leads. It is a Trojan horse that will be   used one day to co-opt German taxpayers into rescues for less Teutonic EMU   kin. One can sympathise with Berlin. But sharing debts with Italy and Spain   was implicit when they agreed to launch the euro. A shared currency entails   obligations. We have reached the watershed moment when Germany has to decide   whether to put its full sovereign weight behind the EMU project or reveal   that it is not prepared to do so in a crisis.

This is a very dangerous set of circumstances for monetary union."

The author of the article, Ambrose Evans-Pritchard, goes on to ask a provocative question:

"Will we   still have a 15-member euro by Christmas?"

It's a great question, given the uncharted waters we all find ourselves in today.

Comments

[Tina L Wong]

Very questionable, something Economists hopefully caution as well. While many are planning around the London olympics and the euro.

[Barce]

Thanks for posting this. My hunch is that a new economic theory will come out of all of this.