The End of the Euro

€ – RIP

The Unfortunate Demise of a Reserve Currency

The Euro was a spectacular effort to create an international de jure fiat currency, and it has failed miserably. The Euro is used as the currency of such wildly divergent states as Germany and France on one hand; and Greece, Slovakia, Slovenia, Malta, Montenegro, Cyprus, Estonia, San Marino and that hot bed of smuggling, Andorra, on the other. It was officially created on December 16, 1995, became an accounting currency on January 1, 1999, and sprung to life with coins and bills on January 1, 2002.

Nicola, Erstwhile King of Montenegro

The use of the currency is supposed to impose on member states the requirements of fiscal prudence, and in return has offered low inflation, low borrowing costs, and liquidity in the global capital markets for member state bonds. The ability to borrow easily and at low rates has induced marginal member states to borrow heavily. Populist governments in marginal states have used debt to finance social programs; buying votes in the present but mortgaging the future. As these bills have come due in marginal member states, the rates of interest for their bonds have increased dramatically, making refinancing impossible and current debt burdens unsupportable.

Because these marginal member states have no internal capital markets, their bonds have been purchased by major European banks, often at the request of their central governments. In the post-2008 world, these banks simply do not have the capital to support a major breakdown in their investment portfolios. To prevent a catastrophic default, marginal states such as Ireland and Greece have been bailed out multiple times – infuriating their voters who are ready to reject the prior debt incurred by now out-of-power politicians. This is a house of cards, and it will fail; the question is not if, but when.

Greeks preparing for currency reform

 

Life before the Fiat Euro

Consider the situation prior to that inauspicious moment in December of 1995 when the Euro was created as a de facto fiat currency. Euros had been used for decades prior to that date as a market basket of independent European currencies. This practice was used in commercial transactions to mitigate future currency risk for settlement in any one currency. The concept was that diversification across Europe would tend to provide stable value in future settlements. This diversification was destroyed with the creation of the integrated Euro currency, as the inherent fluctuations of financial fortunes of different nation states were subsumed into the single currency.

Consider the Value of your Confederate Dollar Bonds
The weakness in fiat currencies is particularly evident in countries with weak political systems, and the EU certainly qualifies as an intentionally weak confederation. Much like the US prior to the passage of the Constitution, or the rebel Confederacy in the US Civil War, the EU lacks the political capability to operate a fiat currency. When a political system is designed primarily to preserve the autonomy of its member states, no effective single currency in history has ever proved durable or desirable. Stick a fork in the Euro – it’s done.

A former Fiat Currency?

Innovate – Don’t Imitate; The Euro as an Index Currency

There are only two ways to play this out; 1) either the Euro needs to vanish as a fiat currency, or 2) Germany, Greece, Andorra and all of the other members of the EC need to merge under a single US style constitution. I vote for option 1 as the most realistic. The EU bankers in Frankfort can surely create a currency index like the Dow or S&P but based on individual currencies which can be used for commercial settlement of all currency transactions. Using the large commercial banks of Europe as a dumping ground for toxic debt from soon to default countries will only extend and amplify the current anguish. Convert the currency into an index now, let the banks take their lumps, and move on. In the end, the Euro as an indexed currency would work well as a reserve unit, and the interests of the EU would be preserved. The current course of action is dragging down the entire world economy, and will surely end in tears.

Wes Chapman
Written by Wes Chapman