The Euro redux

Franco-German leadership steers Europe back from edge

It may be too early to say that Europe is completely out of the woods as far as economic growth and stability are concerned, but there seems no doubt that the Euro has risen like Phoenix from the ashes of the region’s sovereign debt crisis. In June last year, when Greece was on the verge of defaulting on its sovereign obligations, it was trading at 1.19 to the dollar. Most analysts had predicted that it would remain stuck there and perhaps drift lower. The doomsayers predicted a collapse of the currency claiming that the interests of the relatively stable ‘core’ including Germany and France conflicted with the fiscally overstretched periphery, particularly the PIIGs (Portugal, Ireland, Italy, Greece and Spain). However, the currency bounced back as Greece was bailed out. Some of these anxieties resurfaced during Ireland’s sovereign debt crisis in November but could not push the Euro below 1.29 to the greenback. Today, the Euro is trading at average levels of roughly 1.38-1.40 to the dollar and could head higher if the region’s central bank, the European Central Bank (ECB) hikes interest rates in April, as the majority of forecasters expect.

The revival of the Euro’s fortunes is underpinned by one critical factor — the growing conviction among investors that the European Union’s heavyweights, Germany and France, are committed to the currency’s survival and are willing to reach deep into their pockets to bail their less fortunate neighbours out. The European Financial Stability (EFSF), for instance, was created in May 2010 with a hefty corpus of 750 billion Euros to assist members of the monetary union in periods of stress. Germany is the biggest contributor to this followed by France. While this was structured initially as a temporary lifeline that would expire in 2013, it is possible that it could become permanent mechanism. (This is likely to come up for discussion at the European Union Summit due this weekend). A second factor that has worked in favour of the currency has been the sheer momentum of the region’s growth engines, Germany followed by France. Industrial growth in Germany in January was a ‘China-like’ 12.5 per cent while France followed with a more sedate but respectable 5.4 per cent. This does not, however, mean that the regions’ problems are all over or that news from the region is likely to be uniformly cheerful. Rating agency Moody’s, for instance, downgraded Greece’s and Spain’s sovereign bonds over the past week on the apprehension that their fiscal austerity measures are inadequate.

While these ripples could muddy the waters periodically, the Euro looks like it is here to stay. As anxieties over its survival have receded, the Euro is back in the reckoning as a global reserve currency. This has taken the pressure off gold that was being seen as the only alternative to the dollar. Currency stability also means that the region could be viewed as an attractive investment destination both for bond and equity investors. For emerging markets that are sagging under the weight of their own problems, they will have one more rival to compete with.