Tuesday, 12 October 2004

Why Euroland could fall apart in 2005


“…The national central banks still exist and are fully operational. The bulk of currency reserves still reside with the national central banks, and payment systems in the Euro area are still national. Last but not least, the Euro coins have been issued by the 12 central banks; they could easily be traced to their origin, and then taken out of circulation…”

The City of London: I never so much considered myself an economist or a currency expert. But watching closely which investment ideas are being reported to the greatest degree of unanimity has turned into a reliable indicator for me. By doing just the opposite, I more often than not made money on the market…

…or equally important, I avoided a loss.

And it seems that there is currently not a single subject on which the investment community agrees to the same extent, than the likelihood of a further fall of the US Dollar.

My personal take on the dollar situation is that – once again – the exact opposite of what everyone thinks is going to happen.

The next big currency surprise…?

It has so far been ignored and overlooked by most commentators. But 7 July 2004 may go down into history as the day the Eurozone started to fall apart. Italy’s national debt was downgraded by the rating agency, Standard & Poor’s. It doesn’t take an economics degree to figure out that other mainland European countries are facing a similar downgrade.

With several European governments having reached a state, where you could say that they are fighting for financial survival, it may soon become every man for himself. This in turn would prepare the center-stage for talks about a return to national currencies.

Most Europeans are still unwilling to support tough economic reforms. Thus the only way to prop up the Euroland economies will lie in devaluing the currency. Individual Euro countries will not be able to devalue the Euro, which is why talks of a re-introduction of national currencies are bound to happen.

An easy move, but huge political profits

Surprisingly, the hurdles for such a move will be lower than one would expect. The national central banks still exist and they are fully operational. The bulk of currency reserves still reside with the national central banks, and payment systems in the Euro area are still national. Last but not least, the Euro coins have been issued by the 12 central banks; they could easily be traced to their origin, and then taken out of circulation.

Then, until the new national money has been minted and printed, France, Germany, Italy and the rest of the 12 could just use their own existing Euro coins and notes as legal national tender.

Unthinkable? Never doubt the politicos’ self-preservation

Politicians will always do everything it takes to win the next election. They peddled the Euro with the promise that a united European economy would create growth and prosperity. But the promises never materialized, and the voters are growing restless.

New ideas are needed to win votes. Reintroducing national currencies could prove the No.1 promise that virtually guarantees election victory. Yet most of the media lacks the perspective to report this event in advance. Instead, whatever the hottest current trend is, the media talks about it as though it will continue to go on forever. The US Dollar fell for two years in a row, and most media reports make one believe the US Dollar is set to fall further.

Things always change – sometimes in a big way

Mark my words: In a year’s time, talk about the demise of a currency will be focused on the Euro, not the US Dollar.

It will once again hit the majority of investors, commentators and analysts by surprise – just like the strength of the Euro did two years ago.

By Sven Lorenz

Sven Lorenz is a UK-based but globetrotting analyst with a 15-year reputation for outwitting Europe’s best financiers.

This article first appeared on The Daily Reckoning