INTERNATIONAL HERALD TRIBUNE
Paris, Monday, January 4, 1999
The Euro Could Be Good for
Trans-Atlantic Relations
By C. Fred Bergsten The Washington Post
WASHINGTON - Eleven nations of Europe now embark on a breathtakingly historic venture. They launch a common currency to replace their national monies. They thus create a single, continent-wide economy very much like that of the United States.Their initiative is hugely significant to America. The euro will both strengthen America's most important economic and security partners and eventually challenge the dollar as the world's premier financial asset.
Economic and monetary union in Europe is the culmination of 50 years of integration. The nations that unleashed the two world wars of the 20th century resolved to preclude any possibility of further conflict by irrevocably meshing their economies. They also concluded that their intense economic interdependence offered enormous potential gains from eliminating barriers to trade and other economic transactions.
Both political and economic unification required institutionalized cooperation to preclude nationalistic backsliding.
Europe's unification has been history's most successful instance of sustained international cooperation. The Common Market of free trade for six nations in the late 1950s grew steadily to become the single European market of the current 15 members by the 1990s.
Britain, Sweden, Denmark and Greece do not join the euro at the outset, but the rest of the European Union now moves to the single money: Austria, Belgium, Finland, France, Germany, Ireland, Italy, Luxembourg, the Netherlands, Por-tugal and Spain.
The adoption of a common currency is by far the boldest chapter of European integration. Money traditionally has been an integral element of national sovereignty. The countries participating in the euro give up the power to set their own interest rates and exchange rates, the two most important prices in any modern economy, and have sharply circumscribed their use of fiscal policy as well.
Germany's decision to terminate its beloved mark and France's willingness to eliminate its historic franc represent the most dramatic voluntary surrender of sovereignty in recorded history.
The European Central Bank that will manage the euro is a truly supranational institution. It is the first monetary authority without a government to oversee it. This ''EuroFed'' is an independent and powerful institution from now on.
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THESE changes are so revolutionary that skepticism has abounded throughout the process, especially in the United States, and some still expect the euro to fail. The challenges are indeed formidable. Unemployment is high in most of Europe. Europe has no central government to channel funds from growing to stagnant regions, as Americans have in their monetary union in the United States. Labor is not very mobile in Europe, partly because of cultural and linguistic differences.
The Europeans will have to greatly improve the flexibility of their prices and wages to supplant the monetary, fiscal and exchange-rate instruments that the individual countries have previously used to counter disturbances to their economic growth and price stability.
But the euro has succeeded spectacularly even before its formal launch. Because of strong political support to meet the qualifying criteria, Italy, Portugal and Spain in particular have been able to achieve previously impossible cuts in their budget deficits, inflation and interest rates. Starting a bit earlier, France has attained lower inflation and interest rates than Germany. The economic convergence across Europe is unprecedented.
The skeptics also ignore Europe's overwhelming political commitment to the integration process. A politician in any European country is hard put to oppose the euro or take steps that would undermine it. Failure of the new currency, now that it has been begun, would be catastrophic for the future of the entire Continent; the process is thus likely to elicit whatever supportive steps turn out to be needed to make it work.
The euro will strengthen Europe both economically and politically, which is good news for the United States.
Also, the euro will start to challenge the dollar as the world's lead currency as soon as the European Central Bank and the new currency establish their credibility - which will probably be quite soon.
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THE dollar has reigned supreme ever since it supplanted the British pound between the two world wars, in large part because no other currency rested on an economy near its size. The initial Euroland of 11 will be almost as large as the United States, however, and the eventual grouping of 15 (or more) will be considerably larger.
Even the start-up European group conducts more trade with the rest of the world, has larger foreign exchange reserves and enjoys a much stronger external financial position than the United States does.
This means that the euro will immediately cover as wide an economic base as the dollar, cutting transaction costs and making it attractive to foreigners as well as to Europeans.
Euroland firms will finance their vast trade in euros, inducing others to do so, too. The result will be a huge shift from dollars to euros by firms, investors and central banks around the world. The amounts involved could range from $500 billion to $1 trillion, representing by far the largest portfolio diversification in history.
The shift from dollar hegemony to a bipolar monetary world will have several implications for the United States.
During the transition period, conversions into euro assets could produce a sharp decline in the exchange rate of the dollar. (The huge U.S. trade deficit, which is likely to hit $300 billion in 1999, will reinforce this effect.) By reducing the prices of U.S. exports, this would improve America's competitive position and reduce its trade deficit. It would also push up prices for imports, however, generating upward pressure on inflation and perhaps interest rates if the U.S. economy remains near full employment.
For the longer run, the existence of a real rival will generate healthy competition for the United States across the world economy. The euro, however, also may make it costlier for the United States to borrow the huge amounts of foreign capital needed to finance its chronic external imbalances. It could even trigger a dollar crisis if Americans fail to keep their house in order.
Creation of the euro means that Europe ultimately will become a full equal of the United States, at least in economic terms. The two economic superpowers will have to learn to function as partners, to avoid disrupting each other and to exercise their joint responsibility for the world economy. New mechanisms will be needed to maintain currency stability, keep trade and investment open and sustain economic progress.
If the United States and Europe can even begin to replicate Europe's achievements in economic integration and political cooperation, trans-Atlantic relations could be the global success story of the next 50 years.
The writer is director of the Institute for International Economics and a former U.S. assistant secretary of the Treasury. He contributed this comment to The Washington Post.
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