Lars Seier Christensen, the co-chief executive of Saxo Bank, thinks it’s only a matter of time before the euro passes into history as another failed experiment in the dark art of monetary machinations.”It is the renewed reality for traders and investors,” he advised at a Bloomberg conference last week in London. “The euro is a doomed currency and a lot of people knew that already when it was introduced. Rationality needs to return to the Eurozone. If it doesn’t, recession will turn into depression.”
If recent history is a guide, the best you can say about rationality’s homecoming is that it’s a work in progress. Granted, predictions of the euro’s demise have been popular and premature… so far. Thanks mostly to the European Central Bank, the currency endures. Despite repeated events that brought the euro to the brink, Europe’s great experiment in monetary unification limps on. It’s conceivable that the ECB could extend life support indefinitely. But at what cost? At what point does the economic pressure on the people in the street rise so high that the technical capacity for keeping the patient alive becomes a self-defeating proposition?
It’s been popular to look for acute events that will trigger a euro collapse—Greece’s exit from the currency union. But while pondering the odds of a Grexit or an equivalent catalyst makes for compelling headlines, the bigger risk is the chronic pain that the euro architecture imposes on the weaker economies in the Eurozone.
The Economist points to one of the several chronic issues that quietly but persistently threatens the euro: high interest rates that choke off lending to small companies in Spain and Italy:
When interest rates are high savers are happy, but borrowers are not. When they fall, savers’ pain is debtors’ gain. It is a natural trade-off. But in the euro zone these days rates hurt everyone: they are low for depositors and high for borrowers. This is especially so in Italy and Spain, where the rates small firms pay to borrow are far above those set by the European Central Bank (ECB) and those paid to depositors. The link between the ECB’s “policy” rate and borrowing in the real economy is broken.
The economies of Italy and Spain are too big to fail if the euro is to survive. But survival is threatened the longer a broken lending mechanism roils these countries and their small firms, which historically have been the foundation of job creation throughout Europe. In contrast with the US, where low interest rates have generally been available in all 50 states, Italy and Spain are suffering under the boot of relatively high borrowing costs vs. France and Germany. It’s no trivial issue that the economies in Europe that need lower rates the most are burdened with the highest borrowing costs in the Eurozone. This reflects a failure of many things, but first and foremost it’s a failure of central banking, which is a direct byproduct of the flawed design of the euro from the start: monetary union without fiscal union.
How long can this two-tiered state of macroeconomics endure? In theory, it could roll on for years. It already has. The ECB has kept the euro from collapsing. But the slow burn that ends up treating some of the Continent’s biggest economies as second-class citizens can’t last forever. Something will eventually give. The euro crisis will either be resolved by redesigning its framework or else the currency will inexorably move closer to an ignominious collapse, one day at a time. No one will ring a bell when the point of no return has been crossed. The question is whether we’ve already passed that tipping point and the ECB is merely rearranging the deck chairs in a bid to engineer an orderly passage into failure?