As the Euro turns 10 it stands at a crossroads, and 2012 could be the year which might shape the future of the Euro.
2011 has been yet another unprecedented year for the global currency markets. The markets have been shaken by a myriad of forces – downgrade of sovereign credit rating in developed economies, European debt crisis, price correction in emerging markets, central bank interventions, and fluctuations in commodity prices.
All these factors will continue to impact capital flows, as the global currency markets enter a new year. On the currency market spotlight is on the Euro, which has undergone an upheaval of sorts, and is at a crossroads at the close of 2011. The European Union and the Euro face a verdict in 2012. To understand how the scenarios could play out in 2012, it is important to review the genesis of the Euro and its performance since inception.
On January 1, 1999, eleven European nations agreed to replace their national currencies with a single currency – the Euro. The idea of a single currency was the result of an attempt to bring the European region together. The underlying rationale was that a united economic system would reduce the risk of war and discontentment between the member countries, and open the door to economic, financial and labour integration,and cooperation between member nations in a multitude of areas.
The historic and challenging mission of introducing a single European currency was expected to have dramatic effects not only on the political and economic climate of the region, but also on the international monetary system on the whole.
The golden decade (1999 – 2009)
Since its debut, the success of the Euro has exceeded the expectations of the believers, and silenced the critics. Five new members have joined the EU, after having fulfilled the conditions for euro adoption – Greece in 2001, Slovenia in 2007, Cyprus and Malta in 2008, and Slovakia at the start of 2009. Today, the euro is the single currency for more than 320 million European citizens. Besides the wide scale adoption, the golden decade of the Euro had several successes.
First, the inflation in the EU zone was under control and the inflation-volatility had reduced, in effect, bringing economic stability to Europe. Second, the Euro minimized the exchange rate risk within the euro area and increased price transparency, reduced transaction costs, and heightened competition, thereby promoting trade within the euro area. European firms broadened their markets by exporting their goods and services, resulting in competition and increased consumers’ choices. Third, the unique governance model of the EU, which effectively combined regional policy setting with domestic policies, was not a disaster as many expected it to be. Finally, the Euro established itself as a credible alternative to the US Dollar. Some of the OPEC nations announced their intent to wean away from the USD to a basket of currencies (led by the Euro) for their oil exports.
The cracks develop (2010 – 2011)
While the Euro was basking in its success, a few cracks began to develop from 2002, as a result of several factors – cheap and easy credit, high borrowings by the governments, real estate bubble burst, and global economic slow-down since 2008.
Investors became nervous about the high levels of public debt in EU nations such as Portugal, Ireland, Greece, Spain, Italy etc., which made it difficult for these nations to refinance their public debt. The credit agency downgrade of these nations only worsened the problem. The results were disastrous – a rescue package of close to a trillion dollars, write-offs of debt by banks and lending institutions, and an increased bail-out package in 2011 of almost 1.5 trillion dollars.
What is in store for 2012?
The Euro is now at a crossroads, and 2012 could be the year which might shape the future of the Euro. The rescue plan for the euro presented by Germany and France might be adopted, thereby invigorating the Euro, or might be rejected, resulting in an uncertain future for the Euro. The recent statement from European Commission President Jose Manuel Barroso sums up the situation.
“This is not an agreement at 17-plus, but an agreement at 27-minus”.
The writer is co-chairman of Region Holdings