Some 290
million people of 11 European countries woke up on the New Year to a new money, euro,
sweeping away their monetary borders and throwing up a big challenge to the dollar. The 11
euro zone grouping Germany, France, Austria, Belgium, Finland, Ireland, Italy, Luxembourg,
the Netherlands, Portugal and Spain, have taken one of the most important steps in
European history, forging a common future as an integrated economic power when, a little
over half a century ago, many of them were enemies in the battlefield.
The zone will account for nearly 20 per cent of the world's economic production and trade
and its significance is apparent. Euro is also expected to produce a new a new economic
superpower that could rival the United States and the dollar |
. It will, no doubt, play an important role in the international
monetary system because of the large economic area behind it.
The euro will be worth 1.95583 German marks,
6.55957 French francs, 1,936.27 Italian lire, 40.3399 Belgian and Luxembourg francs,
2.20371 Dutch guilders, 166.386 Spanish pesetas, 200.482 Portuguese escudos, 13.7603
Austrian schillings, 0.787564 Irish punts and 5.94573 Finnish markkas. It will be around
1.17 dollars, 134.8 Japanese yen and Dh 4.3939. |
Stability
The euro has begun its life with interest
rates at three per cent and the European Central bank (ECB) had indicated that it did not
intent to reduce that level in the foreseeable future. Inflation across the zone is
currently at record low of 0.9 per cent and the new currency is underpinned by a large
structural trade surplus. In the first eight months of last year, exports of the zone
outstripped imports by 62.5 billion dollars. Growth forecast for this year is between 2.25
and 2.5 per cent. Investors' confidence in the new currency area was underlined last year
when the countries in the area were left unscathed by the Asian and financial crises.
US officials have welcomed the birth of the
new currency and brushed aside the argument that it might challenge dollar's international
standing. On the contrary, the arrival of new currency, creating first real alternative to
the dollar, is likely to drain huge amounts of international funds that until now have
tended to flow with little question to the United States. It is estimated that the
development of more liquid European financial markets could drain off some 11 trillion
dollars that were invested in the United States markets in 1997.
| Alternative |
Possibilities |
Some Asian countries will also want to balance their reserves,
which are now too heavily in dollars. The euro is expected to draw some capital from Asia
that overdependent on the dollar, which now appears strong but widely known that it may
weaken in future. The euro is the automatic choice as the Japanese yen is too unstable.
Moreover, the national central banks of the EMU area also can be expected to reduce their
dollar reserve holdings. According to the International Monetary Fund, the estimates of
the value of the unneeded reserves vary from 50 billion to 230 billion dollars.
As holders of nearly 40 per cent of the
world's reserves, Asian Central banks have looked forward to the euro since the regional
currencies pegged to the dollar were affected more that others during the financial crisis
in the region. They have realised the danger of holding too many dollars and they should
be eager to diversify their reserves portfolio. The birth of the euro may come as blessing
to them. Some Asian countries have already expressed their desire to in holding euros. A
Chinese Central Bank official is reported to have said that the bank would gradually
increase the proportion of euros in their reserves, the second largest in the world.
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At present about 19 per cent of China's external reserves are in
European currencies and 62 per cent in dollars and about eight per cent in the Japanese
yen. At the end of October last year, China's reserves stood at 143.7 billion dollars. The
ratio of the new currency in China's reserves is expected to be 30 to 40 per cent.
Similarly, Taiwan is reported to be planning to hold 10 billion euros as part of its
reserves, out of its total of 88.074 billion dollars.
Officials and analysts also feel that the new
currency has the potential to overtake the German marks in it its status as an official
reserve currency in Asian Central Banks. The IMF estimates say that the mark accounted for
nearly 12.8 per cent of the international foreign reserves and the dollar 57.1 per cent at
the end of 1997.
The timing of a shift into euro will depend
on the performance of the dollar in the near future and on the economic trends in the
United States and Europe. Analysts say that holding the dollar heavily in their reserves
is highly risky and this could be seen in the behaviour of the dollar recently. Scepticism
about the dollar's position as the key currency is also growing as the United States
continues to be the largest indebted nation in the world and in biggest trade deficits.
What the Asian countries would be wanting is save haven to hold their reserves. The
dollars position in this respect could be shaken once its value starts declining and that
would be the time the when the Asian Central Banks start shifting their reserves
into the euro. |
Cautious Approach
It would be a disaster for the dollar as an
international currency, if the OPEC nations start accounting their oil sales in euro.
There have been demands from many quarters among the oil producing countries to shift from
the dollar to a basket of currencies in accounting the oil revenues since their incomes
have been eroded for dual reasons of eroding dollar value and falling oil prices in the
international markets. There is a strong possibility of revival of the demand for shifting
from the dollar, if its value is eroded again in the near future. Should this happen, the
petro dollar reserves and the international monetary reserves of the oil producing
countries can flow out of the United States and can result in chain reaction. But so far
the OPEC members, especially from the GCC countries, have adopted a wait-and-watch
approach.
Japan has been silent about the details of
its external reserves, but nobody can rule out the strong possibility that the world's
largest reserve holders, including Japan, could shift part of their dollar reserves into.
However, no nation is expected to take any
hasty decision on this shift. They are likely to wait until the liquidity in the euro and
smooth convertibility into other currencies are secured. They also would like to see how
the euro nations work to bind together their monetary and foreign exchange policy
management and how they would be ready to face the impact of a possible cyclical economic
downturn. So let us keep our fingers crossed. |
