Europe’s currency crisis came swiftly. For weeks the oft-derided traders had been expecting the French franc to fall against the German mark. Then came a signal: Germany’s central bank failed to cut a key interest rate, bolstering its currency. Dealers piled into the markets, selling francs and buying marks in a lemming-like frenzy. With Europe’s currency markets verging on anarchy, monetary authorities last week opted for a draconian solution: to abandon Europe’s system of closely “pegged” exchange rates (where the franc, say, would never vary more than 2.25 percent from the mark) and let currencies float nearly freely against one another. Almost magically, the markets calmed. Finance ministers and central bankers celebrated their prudence and foresight, as if nothing had happened.
In fact, something extraordinary has happened, reaching far beyond a mere retooling of the European Monetary System. The five-day crisis highlights two emerging realities. One is that control over the world’s financial markets has shifted from central banks to private institutions. The other represents a startling role reversal. Currency traders and speculators, despite their bad rep, have become a force for stable growth. Europe’s central banks and monetary “policy planners,” supposed bulwarks of economic order, actually impede it.
The reason: even as Europeans tout a vision of a single Europe, they go their separate economic ways. Germany, printing money to finance unification, wants high interest rates to contain inflation. Countries with weaker economies, like France, need a cut to spur growth. Perceiving that there is no middle ground, and that such pressures would force France to devalue or drop out of the system, traders dumped francs. Everyone was in on the massive sell-off, from powerful speculators and big international banks to sobersided institutional investors. It was, in effect, a marketplace protest, a groundswell declaration, explains one senior banker, which Europe’s antiquated financial status quo “could not stand.”
By busting up the ERM, as the old exchange-rate mechanism is called, traders have done both Europe and the world a favor. The rigid ideal of monetary union has given way, for now at least, to a more realistic recognition that Europeans need to flexibly manage their own economies. That, in turn, could mean more robust global growth. Stock markets across the Continent surged last week in the expectation that France (along with Belgium, Spain and Denmark) will now be free to cut rates and rev up their slow-motion economies. If growth begets trade, the United States and the world will benefit. Does this mean Europe’s currency woes are over? Hardly. No sooner had last week’s panic subsided than one major market player, billionaire George Soros, signaled his intention to sell Deutsche marks. If traders force Germany to cut rates, they would indeed be heroes.
