- The Washington Times - Monday, July 17, 2000

If money talks, the euro is speaking out of both sides of its mouth at once.

Led by Germany and France, the 11 "euro-zone" nations have enjoyed good growth, strong exports, low inflation and new competitive vigor in the 18 months since they embraced the unique experiment in creating a multinational currency from scratch.

But the early returns for the euro have fallen far short of the economic and political ambitions many of its founders laid out. Even more galling is that the euro and Europe's economy as a whole still suffer badly in comparison with the United States and the still-dominant dollar.

"We're still very early in the game, but the euro so far has clearly performed at the low end of the expectations scale," said Reba Carruth, a professor in the George Washington School of Business and Public Management and director of the school's Trans-Atlantic and Global Market Governance Project.

"Relative to what the Europeans themselves were hoping, I think the euro has been slow to emerge as a dynamic currency in the global market," she said.

Many Americans underestimate the symbolic power the euro carries across the Atlantic, much of it clearly anti-American in tone. The politicians who conceived the euro saw it as part of a larger campaign to transform the European Union from a giant free-trade collective into a "United States of Europe," complete with its own foreign policy, parliament, army and currency.

Gerald O'Driscoll, a senior fellow at the Heritage Foundation, has long been skeptical of the euro idea, correctly forecasting early last year that the euro would fall from its introductory exchange rate equal to $1.17.

After steadily declining over the past 18 months to just over 88 in early May, the euro yesterday had recovered to 93.74 cents, still nearly 20 percent below its debut price.

Mr. O'Driscoll says the euro's economic effects have been a mixed bag.

The slide has proven a boon to European exporters and supported the euro zone's impressive 3.4 percent GDP growth over the past 12 months. But he said the strong growth has actually provided European policy-makers with an excuse not to move on more fundamental reforms on labor mobility, social spending and productivity needed to compete with U.S. and Asian rivals.

"Politically, it's just been an embarrassment," Mr. O'Driscoll added. "Anybody who was supposed to buy into the whole idea of European strength and unity on the basis of a common currency is probably having real second thoughts."

European Central Bank Chief Economist Otmar Issing said in a recent interview with the French newspaper Le Monde that the 11 euro nations should grow by at least 3 percent this year and next.

"The big challenge is to transform this cyclical upturn into a period of strong non-inflationary growth," he said. "We can do it, but it won't happen by itself."

The euro came into the world carrying the burden of great expectations.

French Foreign Minister Hubert Vedrine, in a 1997 address, praised the euro's "rebalancing virtue" in an international financial world dominated by the U.S. dollar.

A year later, Dutch Prime Minister Wim Kok stated even more bluntly that the euro "can develop into a cornerstone for Europe's further political integration forming the foundation for Europe's increased power in the world."

Beyond making it easier to price Spanish trucks in Helsinki or compare investment returns in Dublin and Dusseldorf, Germany, the euro is expected to perform more subtle, noneconomic tasks: link Europe's smaller countries to the German powerhouse while restraining German unilateral ambitions; contest U.S. economic and political "hegemonism;" promote cooperation between Paris and Berlin; and, eventually, link a still-reluctant Britain more tightly to its Continental neighbors.

But the euro's stumbling debut has in many cases had the opposite effect.

Rising skepticism in Britain has forced the pro-euro government of Labor Prime Minister Tony Blair to walk a fine line. Opposition to adopting the common currency is on the rise in the other EU states that have not committed to the euro, including Denmark and Sweden, although Greece recently announced it will become the 12th member of the euro zone starting Jan. 1.

Even in Germany, new public opinion polls show a sharp increase in the skepticism about the euro, up from 22 percent in February to 33 percent in May.

With the euro scheduled to displace the French franc, the Italian lira and the German mark in the wallets of Europeans for good in July 2002, the psychological stress could increase.

"Germans had been told the currency would be as strong as the market but have been very disappointed," according to Jurgen Donges, a German economist who heads a committee advising the German government on the euro, noting the currency's 20 percent drop against the dollar since its introduction.

"People are losing faith in the currency before they have even handled it," Mr. Donges told the London Daily Telegraph this spring.

While the European Central Bank in Frankfurt, Germany, has come under criticism for failing to set a clear direction for the euro, European finance ministers and policy-makers are clearly frustrated that the international markets have, in their view, grossly underestimated the value of the euro.

Europe, they note, has had strong, noninflationary growth. Unemployment, long the bane of the generous social welfare programs common in Western Europe, is falling at last, down into the single digits in both France and Germany for the first time in a decade.

George Washington's Ms. Carruth said that the recent announcement that European stock exchanges such as London and Frankfurt are planning to merge is a sure sign of the transforming power the euro has brought to EU economies.

A recent survey by the Economist magazine found that leading European countries are the most competitive they have been in a generation, showing new flexibility and being toughened by pressures from shareholders and cross-border mergers.

And still the euro languishes.

"The downward trend of the foreign exchange rate of the euro since early 1999 does not fully fit into this picture," said the ECB's Mr. Issing, in a June 13 address to the Institute of Economic Affairs in London.

"There is a broad consensus that the weakness of [the euro] has not been in line with the very positive economic fundamentals of the euro area as well as the international balance of payments positions," Mr. Issing said.

But both the German economist and the Heritage's Mr. O'Driscoll note that the inflexible labor market in Europe still stands as a major competitive disadvantage compared with the United States, one the euro has done little so far to ease.

Despite some recent reforms, it is still more expensive on an average for a European small business to hire a worker, more complicated to fire him and more difficult to lure him to a new job in a distant market especially across country lines than is the case in Britain or the United States.

Said Mr. O'Driscoll: "The temporary export benefits of the weak euro have partly obscured the fact that the national economies involved here remain very different. Trying to set one policy for Ireland, which has had a lot of economic liberalization, and Germany, which has had a lot less, is causing big headaches."

The fact that national economies in Europe are revving at different speeds is another source of tension.

The blistering hot Irish economy, with one of the most competitive economies and one of the tightest labor markets in the industrial world, has seen annual inflation rates top 5 percent three times the euro-zone average.

But Irish policy-makers have little hope of a sharp rise in euro-based interest rates to cool their economy down because such a move could harm France and Germany, which are growing much more slowly and have much lower inflation.

Earlier this month, the European Central Bank announced it was holding the line on interest rates, despite warning that recent oil price increases have also increased inflationary pressures on the Continent.

The Irish government, which now projects gross domestic product (GDP) growth of over 10 percent this year, late last month decided to act on its own, taking a series of anti-inflation measures including price controls on beer.

In the United States, economists note, a high-growth region might ease its bottlenecks by importing workers from more depressed states. But high cultural barriers and generous jobless benefits effectively discourage workers in, say, Spain, where the unemployment rate tops 14 percent, from uprooting and applying for work in Ireland.

In an interview with Europe, the European Union's own monthly magazine, Matti Vanhala, governor of the Central Bank of Finland, said he was generally satisfied with the euro's debut, saying it had brought price stability and better coordination inside Europe even if it had not performed as well against the dollar.

But he admitted there were strains and added that the real test could come when the good times stop.

Conditions today are "pretty benign," Mr. Vanhala observed.

He added: "It's really only if some really adverse slowdown occurs that we shall see how countries are coping and how the euro area's coping with itself."

Beyond its economic value, the euro has fueled the intense debate in Europe and the United States over how the European Union will evolve as a political force in the coming decades.

"People here don't appreciate how much sovereignty the European nations have already given up, willingly," said Ms. Carruth. "Europe has been at this for a long time and their notions of what they are willing to give up to coexist and integrate are very different from ours. The euro is a key expression of that."

Mr. Vanhala said that in an age of global trade and massive currency speculation, his small country can't afford the luxury of holding on to the Finnish markka and rejecting the euro.

The euro is "a much better guarantee than we could ever have been able to furnish on our own working with a small currency in a global situation," he said.

But the currency union has also played into an intense debate in Europe over whether things have gone too far too fast. Other factors in the debate: the EU decision to sanction Austria when a far-right party joined the government; continuing trade and security disputes with the United States; resentment over regulatory and legal demands emerging from EU headquarters in Brussels; and the plans to build a EU rapid-reaction army outside the NATO alliance.

Expressing what he said was a "personal vision" for a united Europe, German Foreign Minister Joschka Fischer in May proposed a closely linked federation of up to 30 states ruled by a sovereign parliament and governed by a single constitution.

Many European leaders, including Italian Prime Minister Guiliano Amato, said Mr. Fischer had gone much too far.

French Interior Minister Jean-Pierre Chevenement sparked another uproar when he said Mr. Fischer's comment showed that Germany "still dreams of the Holy Roman Empire."

Germany "still has not recovered from the derailment in its history that was Nazism," Mr. Chevenement said, later saying his remarks had been taken out of context.

Given the tensions and the euro's own problems in the market, Mr. O'Driscoll said he did not rule out the possibility that the currency experiment could collapse altogether. But he said it was more likely the euro would continue to bump along, remaining a player in the market but always a junior partner to the dollar and the Japanese yen.

"The euro reflects the European Union itself," he said, "with all its good and bad points. It doesn't solve everything, but it doesn't seem to go away, either."

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