Speaking at the European Parliament in early February 2013, Francois Hollande of France castigated the floating exchange rate of the euro. “The euro should not fluctuate according to the mood of the markets. A monetary zone must have an exchange rate policy. If not it will be subjected to an exchange rate that does not reflect the real state of the economy.” The week before, the euro was at $1.37, a 15-month high. The euro was at its strongest rate against the Japanese yen since April 2010. Behind the rise in the currency’s value was a surge in investor interest in the euro from assessments that the worst of the debt crisis had passed. Hollande’s statement can be critiqued on a number of points.
First, a floating mechanism is an exchange rate policy. It was not as though the ECB did not have one merely because it was that of “float” rather than “fixed” or “pegged.” Second, it is by no means certain that a fixed or even a managed-float would reflect the underlying condition of the economy. Third, the increasing value of the euro reflects increasing confidence in the euro-zone, which is not by any means a bad thing for Europe.
Was the upswing in the value of the euro just the beginning of the currency's rise as a reserve currency around the world?
Hollande was concerned that the increasing value of the euro would hurt exports by rendering them more expensive in other currencies. Just as the E.U. was trying to claw back out of a deep recessionary hole, the prospect of declining exports could make the climb out all the more difficult. “We need to protect our interests,” Hollande said. Meanwhile, however, Philipp Rösler, Germany’s vice-chancellor and economy minister, said the eurozone’s top priority should be “strengthening competitiveness, rather than weakening the currency.” This assumes that increasing competitiveness could withstand the headwinds of a strong currency. The added difficulty, he was no doubt assuming, would be preferable to a weak euro as investors continue to steer clear of the eurozone. Put another way, the vote of confidence is on balance a good thing for the E.U., even if it means having to push harder on structural reforms to more than compensate for the new headwinds.
The return to health of the euro can be viewed in a “bigger picture,” which also argues against Hollande’s stance. Namely, a stronger euro even before the bailout had ended may suggest that the currency could eventually compete with, or even replace the U.S. dollar as the main reserve currency globally. With a federal public debt of nearly $17 trillion at the time (plus the debts of the American states), the dollar could already be viewed as vulnerable. The vote of confidence of investors in the euro could eventually exploit this vulnerability. Politically, if the E.U. moves to establish a balance between the power of the states and that of the union, that federal system will be much healthier than the nearly-consolidated American federal system. With a more balanced federal system and a currency to rival the dollar, the E.U., not the U.S., could be in a position to take on the “Asian century.”
By implication, whether a stronger E.U. is in the interest of the U.S. is a complicated question. Perhaps just as it is advisable that the E.U. move toward balance federally, the American interest is that the E.U. strengthen more—but only so much—relative to the European state governments. Put another way, even though it is in the American interest that the euro not be called into question by investors, the Americans would not want to see the euro rival the dollar as the reserve currency. For there are certain advantages that come with being the definitive reserve currency around the world, such as being able to artificially sustain and even increase a huge public debt. In a sense, Hollande was serving the American interest more than that of the E.U. by pushing to keep the euro from strengthening any more. Put another way, he wanted to trade economic growth for more long-term intangible assets.
Hugh Carnegy and Alice Ross, “Hollande Warns on Euro Strength,” The Financial Times, February 5, 2013.