New Money May Up the Ante for U.S.
With an almost grim majesty, the face of George Washington gazes at the public from what has long been the world’s favorite money, the currency of choice for everyone from bond investors on Wall Street to drug dealers in Moscow.
But the mighty U.S. dollar may soon have company: The debut today of Europe’s own euro could lead to an Atlantic-sized sea change in the world’s financial relationships, with far-reaching implications for Americans.
The emergence of a powerful rival to the dollar could spark new pressures on U.S. interest rates and the Federal Reserve and even alter America’s trade balance, which is influenced by strength or weakness in the dollar.
An influential euro also could affect the United States in less tangible ways, cutting into the prestige that goes with printing the world’s dominant reserve currency--cash coveted by central bankers and investors everywhere as the safest and most convenient way to store or convert their wealth.
Still, few expect the dollar to be toppled from its perch any time soon, given the contrasting economic realities that underlie the U.S. and European currencies.
Europeans “would like us to believe--or perhaps they would like themselves to believe--you can move goods and services as easily from Germany to France to Belgium as from California to New York to Texas,” said Bruce R. Bartlett, senior fellow at the National Center for Policy Analysis. “But it’s just not true. . . . I think it’s going to be a long, long time before people confuse the euro and the dollar.”
A Gradual Rise in Influence
One key for the dollar is the speed and breadth with which the new European currency becomes established on the global stage. Already, the 11 countries of “Euroland” represent the world’s second-largest economy, an industrial powerhouse that is 80% the size of the United States.
And the euro’s reach is expected to grow. The possible inclusion of Britain, Sweden, Denmark and Greece in the future would make Euroland a bona fide rival to the United States in economic muscle.
A recent analysis by the Merrill Lynch investment firm cited estimates that investors could shift as much as $1 trillion into euros, and central bank shifts might convert as much as $300 billion if the euro proves highly attractive.
Many economists foresee a gradual, inevitable rise in influence for the euro into a second, key reserve currency, but no precipitous shift in the coming months. Central bank shifts out of dollars and into euros are “definitely on the horizon,” said Catherine Mann, an economist with the Institute for International Economics in Washington. “The question is when it will happen, and will it happen in a big lump?”
Experts say that if the dollar were to lose some of its unique status, it--and the U.S. economy--would become more vulnerable to the fierce tides of global financial markets.
For example, the United States is able to run huge trade deficits without raising doubts about the dollar and prompting investors to flee. That is an enviable difference from the plight of emerging nations, whose currencies face ferocious speculative attacks when investors lose confidence in their economies. In 1997 and 1998, such countries have had to push interest rates into the stratosphere in order to combat investor flight and retain foreign aid.
If an ascendant euro took away some of the dollar’s unique standing, goes one point of view, the Federal Reserve would have to weigh the dollar’s strength in making decisions about U.S. interest rates--raising them to attract foreign investment, for example, if the dollar were deemed too low.
“We don’t normally think about that at all,” said Kurt E. Karl, chief international economist at WEFA Group in Philadelphia.
In a world where the dollar is less in demand, “you can’t borrow as easily on international markets” without offering high interest rates, added Karl, who expects the euro to become an established reserve currency along with the dollar over the next decade. “What it really comes down to is that money becomes more expensive.”
And, of course, a weaker dollar diminishes Americans’ purchasing power by making imported goods more expensive. At the same time, it makes U.S. products more competitive overseas--good for U.S. jobs.
Biggest Dollar Impact May Come From Asia
Few doubt the euro will be sought after in select regions that engage in a brisk trade with Western Europe, notably Eastern Europe, Russia and parts of Africa. Likewise, Brazil and Argentina, both of which conduct significant trade with Europe, are expected to add some euros to their foreign exchange reserves.
The biggest dollar impact, however, might come from Asia, where financial officials have made no secret of their wish to diversify foreign exchange holdings that long have been concentrated in dollars.
Some 57% of the world’s foreign exchange reserves were held in dollars at the end of 1997, according to the International Monetary Fund. (The IMF pegs total foreign exchange reserves at more than $1.5 trillion, while some estimate the figure is substantially higher, with possibly $1 trillion in East Asia alone.)
One economist who recently met with officials in several Asian countries came away with the view that “virtually all of them”--Taiwan, South Korea, China, Thailand, Singapore and the Philippines--would be selling dollars and diversifying their financial holdings with euros.
At the same time, there are reasons to expect the euro will gain influence only gradually, said Joseph P. Quinlan, the senior international economist at Morgan Stanley Dean Witter.
U.S. Professes No Concern About Euro
Quinlan, who recently toured Asia, said the region’s central bankers have good reason to avoid harming the dollar even as they add euros. Their message: “Our dollar holdings are going to remain massive, so the last thing we want to do is unhinge the dollar while we’re converting to euros.”
Important economic realities also raise doubts about the euro’s ability to challenge the dollar for global supremacy.
In contrast to the dollar’s stable foundation, the euro will be common to 11 highly distinct nations, each with domestic political pressures and economic realities.
On top of that, the euro will be watched over by an untested European Central Bank with only limited powers. Euroland remains riven by differences on tax policies, red tape, even business culture.
Nor can investors be sure whether the sovereign nations within Euroland will stick to their conservative economic pledges in the face of sharp recessions that could spark political pressures to slash taxes and hike spending.
For their part, U.S. government officials profess no concern about the euro. The official American view is that the dollar’s value reflects broad economic fundamentals, including a newly balanced federal budget and an extremely strong private sector.
“If the euro works for Europe, it will work for us, because our interest is in a strong, prosperous Europe--as a market for our goods and as a partner for us around the world,” said Lawrence Summers, deputy U.S. Treasury secretary, in an interview. “As far as the dollar is concerned, the buck stops here. As long as we maintain strong fundamentals of our economy, we have little to fear from others.”
Others say they would be perfectly willing to cede certain areas of global commerce to the euro.
Consider Europe’s decision to print euro notes worth about $500. The plan raised eyebrows, because some saw it as a bid to capture profits from an underground economy long dominated by dollars. The U.S. Treasury has not printed notes greater than $100 since the 1940s.
“Almost all the $100 bills in the world are used by drug lords and Mafia,” said Nariman Behravesh, chief international economist at Standard & Poor’s DRI in Lexington, Mass. “If that’s what the Europeans want, more power to them.”
