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Monday, Dec. 2, 2002
America's problems transforming euro into 'safe-haven' currency
The new United Nations Security Council resolution demanding Iraq allow a full inspection for weapons of mass destruction was adopted Nov. 13 with unanimous support by its permanent members. In addition to the broad consensus on the need to fight terrorism, neither Russia nor China has exercised its veto right because both remain hampered by their own internal problems.
As U.N. inspectors spread throughout Baghdad, U.S. President George W. Bush is maintaining a hardline stance that threatens unilateral action if Iraq refuses to fully cooperate with the inspectors. Depending on the response of Iraqi President Saddam Hussein, war could break out at any time.
Furthermore, other situations in the Middle East and on the Korean Peninsula remain unpredictable.
What's especially noticeable, however, is that the dollar-buying binge that often accompanies an international crisis has not taken place. On the contrary, market players are selling dollars for euros, keeping the euro-dollar exchange rate close to parity.
One reason behind the lack of dollar buying is the impact of Sept. 11.
Currency traders usually purchase dollars in times of crisis because they consider the United States to be safe. The campaign in Afghanistan underlined the fact that the U.S., as the world's sole superpower, has expanded its military superiority. Conventional wisdom dictates that the dollar should attract buyers.
But the terrorist attacks that hit the political and financial centers of the U.S. finally revealed that the country is not invulnerable. Since the U.S. continues to be seen as the primary target for future terrorist attacks, currency dealers are now hesitant about buying the dollar.
There are economic vulnerabilities as well.
The U.S. economy has not achieved its highly anticipated recovery despite the numerous interest rate cuts made by the Federal Reserve.
The U.S. consumer price index in October rose 2 percent from the previous year, which means effective interest rates have already dipped into minus territory, leaving little room for further monetary easing.
Also, the U.S. continues to suffer from mounting external deficits while its fiscal condition worsens. And the debt problems of Latin America -- the United States' backyard -- remain serious, as illustrated by Argentina.
The second major reason why the dollar is being shunned is the ascendance of the euro as an alternative key currency.
During a recent meeting in Prague, NATO expanded its membership by incorporating ex-communist countries from the former Soviet Union, reducing the likelihood of a military confrontation with Russia. The European countries have been keeping their distance with the U.S. on the subject of attacking Iraq, and in this sense, the euro is being increasingly viewed as a alternative "safe haven" to the dollar.
The value of the euro has been steady for good reason.
Despite the recent economic problems in Germany and other countries, the euro-zone nations have numerical targets for inflation and fiscal health they must adhere to in order to retain membership. This distinguishes them from countries like the U.S. and Japan, where discipline on such matters is loose.
At the end of last year, the net external debt of the United States reached 23 percent of GDP. Total outstanding debt hit 90 percent. On top of that, this year's current account deficit is equivalent to about 4 percent of GDP.
In Japan, the combined outstanding debt of the central and local governments has reached 140 percent of GDP.
Another reason behind the euro's strength is that changes in Germany's economic condition have caused funds that were previously poured into the dollar to come back to Europe.
Currently, the euro is attracting buyers as the lesser of three evils over the dollar and the yen. The yen is moving in a pattern closer to that of the euro rather than the dollar, because -- at least in Japan -- efforts toward resolving bad-loan woes are accelerating and the nation continues to enjoy a current account surplus.
Teruhiko Mano is an adviser to Tokyo Research Interna tional Ltd.