How will the Euro die?
December 3, 2011 2:16 PM   Subscribe

Could I get an explanation (as free of political bias and buy-gold-and-ammo hysterics as possible) of how the unraveling of the Euro would go down, how such an unraveling would affect the rich and poor nations of the EU, and what economic impact it would have on the US economy?
posted by dw to Work & Money (20 answers total) 4 users marked this as a favorite
You sort of can't. Any response is going to be biased by some underlying set of beliefs. Mechanically it is extremely unclear how it would actually go down. Like no one knows.
posted by JPD at 2:23 PM on December 3, 2011

It's funny because the more people think the euro will die, the less likely it is it actually will. Sometimes I think the ECB has a room full of internet trolls posting and tweeting questions like this just so we can sell more BMWs and hotel rooms...
posted by 3mendo at 2:25 PM on December 3, 2011

I think the value of the dollar would go up which would have a whole range of positive effects on the US economy, but that's about all I can say. I am not an economist and would love to see what folks who have more education in this field would say.
posted by natteringnabob at 2:43 PM on December 3, 2011

3mendo, I disagree with that assessment. (which is illustrative of why this is a hard question to answer) Devaluation of the Euro primarily helps Germany and France, with their relatively large export volume. It doesn't do much at all to help Greece, Italy, or Spain. The Eurozone's problem isn't its currency value, it's the disparity between the core and the periphery. What helps the core savages the periphery and vice versa.

Since the core is in a better position to withstand a little savaging, it would make sense to reform in the direction of helping out the periphery, but that's not what has been happening. The ECB raising rates earlier this year was a clear indication that their main concern is Germany.

Of course, none of this really matters if they don't lay off the austerity hooch, which will bring down even Germany if it's left to go on.

To more directly address your question, dw, there are too many ways this could play out to give you the one true answer. The unwinding could happen in a fairly orderly manner with plenty of liquidity provided by the ECB, in which case it wouldn't be too devastating. Or Italy could announce Monday that all Euro deposits and bonds and loans are now redenominated in New Lira or something, in which case everybody would go freakin' nuts and you'd see a repeat of the Lehman collapse, only much larger as banks fall like dominoes.

There are far too many European banks on the brink already to expect anything other than an incredibly orderly exit by one or more countries to leave them intact. It could get pretty bad, especially since there are a bunch of US banks heavily into European sovereign debt. I don't see as much dislocation in the US, however, because the Fed takes its role as lender of last resort very seriously, unlike the ECB, who has thus far basically told banks where to stuff it.
posted by wierdo at 2:44 PM on December 3, 2011 [1 favorite]

the dollar going up actually isn't a positive for the US economy. Weak dollar makes exports easier, makes the value of offshoring production decrease. Flip side is imports (read oil) goes up in cost.
posted by JPD at 2:53 PM on December 3, 2011

But wouldn't a strong dollar and more expensive imports be a good thing for the economy? If the foreign-made alternative is more expensive, then wouldn't a strong dollar encourage buying "Made in the USA", and thus, jobs if the Euro collapsed and the dollar grew again?
posted by cmgonzalez at 3:08 PM on December 3, 2011

I think the value of the dollar would go up which would have a whole range of positive effects on the US economy

This is not the case. A strong dollar means that American-made products are more expensive, visiting America for vacations is more expensive, etc. It's good for American's buying cheap imports, but that's about it.
posted by empath at 3:14 PM on December 3, 2011 [1 favorite]

How could the Euro unravel? Any number of ways, although no outcome is certain.

Greece (or perhaps another peripheral country: Spain perhaps?) could decide to leave (unlikely, so long as they're getting cash from the EU, but possible, especially if that spigot turns off) but it would be difficult for them to do so without triggering a massive run on their banks. Argentina managed it, so they could if their executive is competent enough. Net result would be instant devaluation of the new currency relative to the Euro, making them internally competitive with German workers again & able to export on equal terms. The country would default on it's external € debt, which would cause havoc in the EU banking system & since US banks have lent heavily to EU banks (or written CDS on EU sovereign debt) there would be significant problems for them as well.

Germany might decide that the best way out for everyone is for them to leave the Euro, possibly along with one or two other countries to form a "hard currency" area, letting the Euro devalue to the level appropriate to the productivity of the remaining countries, swallowing their losses & recapitalising their banks as necessary. Politically unlikely, but much easier technically for the Germans to leave than for any of the periphery to do so, since their would be instant demand for the new currency, unlike that of any putative peripheral countries that might want to leave.

Both these would at least be managed exits. The nightmare scenario is a disorderly default, perhaps triggered by a run on a national bank leading to a cascade of failures and a disruptive exit of a series of countries as they desperately try and prevent their economies collapsing. I suspect we've already come very close to this, but the ECB has so far been willing to backstop the banks. At some point they're probably going to have to print €s outright to cover the losses though & if the Germans balk, then things could get messy.
posted by pharm at 3:19 PM on December 3, 2011

But wouldn't a strong dollar and more expensive imports be a good thing for the economy?

Strong dollar means cheaper imports.
posted by JPD at 3:27 PM on December 3, 2011

The Euro is now a trap for those involved. A Greek exit would mean a devaluation of the 'new' drachma, and then a default on the debt. A German exist would see a soaring Deutschmark, and cripple the German economy.

So it's hard to see how there are going to be exits. More likely, there will be a secondary treaty round (or did we already past this point late last week?) where countries have to 'sign up' to be involved in the ECB's big "don't call it a Eurobond" Eurobond. To do this, they will essentially be giving over much more control to the central EU directorate, in exchange for less local control.

That is the only way it was ever going to work -- harmonised tax-and-spend policies. Personally, I doubt we'll see the Euro fail as has been discussed above. A lot of these seems to be cage-rattling by France and Germany to centralise as much economic control in the Eurozone as possible. Essentially a game of chicken.

Now, if it did collapse, it would be a magnification of 2008 in several ways. The estimated results would be another freeze of the global credit markets, and everyone hoarding cash again. However, unlike 2008, any quantitative easing done is going to have immediate inflationary consequences, for economically, it would be every man for himself, at this point.

Assuming there was a collapse, the next step is that immediately, the dollar, pound, and Swiss Franc would spike substantially as assets were diverted away from the euro. In each currency country, there would be a panic and a run on bank withdrawals, necessitating capital controls. There is also a myriad of derivative contracts sitting on the Euro in both regards, thus we would see another CDS mess.

In short, financial Armageddon in the short-term, as the system will have to be (more) artificially managed, as demand for cash everywhere will far outstrip supply. Even leading up to a Euro crash could be runaway currency redemptions, which is where it looks like they are successfully managing at the moment.

In the long-term, Europe would probably schism into two parts, rich and poor, with the rich creating a neo-Luxembourg, and the poor falling deeply into the hands of either fascists or religious fundamentalists.

The US would probably do well economically in the long-term, as the Euro has become a credible alternative to the dollar for a lot of global business. Also, soaring exchange costs would limit German and French exports, giving the US an edge.

It would very negative in terms of US influence and policy in Europe, as it seems that a bit of isolationism would be required on Europe's part in the separation from one Europe into factions. Also, one would expect to see very strong migration of passport-holders from Europe back to the US, due to the societal instability.

I guess the answer as to how it would affect the US: economically, it may be the US in a much stronger position by removing a substantial competitor and replacing it with smaller, less capable competitors. It would also re-cement the US dollar as the reserve currency -- at least until the anarchy faded.

Policy-wise, the US would lose a huge ally on the global stage, and it some sense, it might very well be back to a cold-war mentality.

So short answer: Good economic prospects for the US. High chance of large-scale war.
posted by nickrussell at 3:44 PM on December 3, 2011 [5 favorites]

There's a good reply up there about the banks - that's the key piece on how the implosion of the Euro may impact the US. Fortunately, I think we'll do a great job of bailing out our banks (I only say this semi-sarcastically).

The biggest downside is that this will not help confidence/sentiment around the world. Will major corporations (the biggest source of employment in the US - not small companies as politicians keep claiming) hire more people seeing that the world is collapsing? Probably not.
posted by secondlife at 4:59 PM on December 3, 2011

Many of the answers above are good. To add my own brief take:
  • No one really knows how it would go down because the Euro was designed specifically to make exit impossible.
  • If a country leaves the Euro, they are basically telling people "all that money we borrowed from you in Euros? We are going to pay you back in a brand new currency." That means all the banks in Germany, France, & etc which hold those bonds go under or require bailouts on scale well beyond anything we saw in the US in 2008. In other words, collapse of the European and possibly global banking system.
I want to expand a little on Nick Russell's excellent comment. He's correct when he says that countries will have to give up control of their own budgetary process in order to participate Eurobonds. To expand on what this means: instead of having a democratic process by which a country's population decides government policy, you'll instead have government policy dictated by non-elected bureaucrats from another country. These non-elected bureaucrats will be central bankers, from the same general population as the bankers who caused much of the current mess by lending too much money to the poorer countries over the last couple of decades. In other words, more control will be handed over to the 1% who will demand ongoing austerity to pay back debts that never should have been incurred in the first place. It's a tragedy.
posted by alms at 6:19 PM on December 3, 2011

"I guess the answer as to how it would affect the US: economically, it may be the US in a much stronger position by removing a substantial competitor and replacing it with smaller, less capable competitors."

My understanding is that this is NOT likely to be good for the U.S., primarily because most U.S. financial institutions are closely intertwined with European financial institutions. And if the banksters go down, so will the rest of us.

The markets would appear to think so too; the S&P seems to take a dive every time some European bankster so much as farts.
posted by mikeand1 at 6:23 PM on December 3, 2011

^^^ Adding, a strengthening dollar isn't necessarily a good thing for the U.S. economically, since it weakens our ability to export.
posted by mikeand1 at 6:25 PM on December 3, 2011

wierdo, italy and greece and spain and ireland rely on exports just as much as germany. See: competitive devaluation.
posted by 3mendo at 7:45 PM on December 3, 2011

(please note that tourism is an export as well even though nothing gets shipped outside the country)

btw, this question has been asked at least 4 other times recently:
posted by 3mendo at 7:51 PM on December 3, 2011

Strong dollar means cheaper imports.

You said imports/oil go up in price.
posted by cmgonzalez at 12:21 AM on December 4, 2011

UBS, the investment bank, wrote a pretty good piece on this back in September. It's available online here
posted by techrep at 3:11 AM on December 4, 2011

The Economist has a long string of articles dealing with the prospect of a Euro collapse. It is interesting to see how their tone has changed from "its an outlier danger that must be skirted around" to "batten down the hatches!" over the past couple of years. More than anything else the articles seem to underline the "nobody knows" answer to your question that several people mention above.
posted by rongorongo at 3:40 AM on December 4, 2011

You said imports/oil go up in price.

Yes that's the negative impact of a weak dollar. That was some very clunky syntax on my part,
posted by JPD at 7:45 AM on December 4, 2011

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