Eurocrash

Tuesday, September 14th, 2010

Nicole Gelinas explains that Europe might have been better off if its nations had continued to compete on currency:

The euro, which debuted in 1999, was the triumph of half a century’s worth of economic and political reconstruction. Its champions, chief among them postwar French and German leaders, hoped that the single currency would fuse the Continent in trade and travel. The euro would encourage greater investment in Europe because investors wouldn’t worry about currency risk. It would give weaker European nations something to aspire to — if they could cut their deficits, they could join the currency and attract more tourism and investment. Further, the euro would give stability to savers, who wouldn’t have to worry about their countries’ turning to inflation in a crisis and destroying the value of their savings. And the euro could compete with the dollar as a world currency.

These goals are admirable, but the common currency may do more to thwart than achieve them. Even cross-border travel, one of the euro’s big success stories, likely could have thrived without the common currency. Europe’s rail investments and deregulatory unleashing of competitive, low-budget airlines have probably done more for international travel than the euro has. Airport and railway-station ATMs put cash in travelers’ hands within minutes. People can use credit cards for almost any purchase now. It’s true that in a state of currency competition, European travelers would have needed to pay exchange fees on withdrawals and credit-card transactions; but competition would have brought banks and money brokers more customers — in addition to the people from England, America, and Asia who already use these services in Europe — and hence caused more jockeying on price, especially with European antitrust hawks watching. So, too, could trade and investment have surged with competing currencies — perhaps more productively than under the euro.

The biggest problem with the euro’s first decade, in fact, is that it did encourage cross-border investment — much of it unproductive. Banks and other investors lent too much, too cheaply, to Greek, Spanish, Italian, Irish, and Portuguese borrowers. Lenders figured correctly that France and Germany would never let a euro member default. Greece used borrowed funds to maintain an impossible system of labor and taxation, while in Spain and Ireland, the debt fueled property and financial-services bubbles, respectively.

Without the euro to protect them, each country would have had to compete for investor capital. Instead of proving to European bureaucrats that they could reform labor and control public spending, each national government would have had to convince investors — perhaps a more skeptical audience — that it would be fiscally responsible and encourage economic growth. Financial institutions, increasingly adept at helping investors hedge against currency risk, could have kept an eye on deficits, too.

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