Archive for December, 2010
About a month ago, as the situation in Ireland continued to deteriorate, an informed commentator observed that the euro faced a battle for survival:
The first year of the Lisbon Treaty has been clearly marked by the crisis of the euro zone. It was not a period of vision, it was a period of survival; it’s not finished yet.
Who was this prescient figure? Some eurosceptic economist, perhaps? A scaremongering journalist?
Actually that quotation – and much besides – comes from a speech given in Brussels by “President of Europe” Herman Van Rompuy on 16 November, twelve days before EU leaders agreed the structure of Ireland’s famous bailout.
The Irish rescue package has been taken by some as evidence that the euro cannot survive. They worry that the single currency is serving too many masters with vastly different economic needs, and that it must collapse (perhaps by means of a German exit). Greece, Ireland … Portugal next? How long can this continue?
Now it is correct to note that the one-size-fits-all interest rate that goes along with single currency membership has caused problems over the years. In 2004-5 a rate of 2% was perfectly appropriate for Germany, for example, where inflation was contained at 1-2% and the economy was emerging but sluggishly from recession. In Ireland, however, where inflation was around a point higher and growth was sprinting along at 5%, such a rate was far too low.
Such imbalances, however, are inevitable in any economy. The US, for instance, comprises fifty states with vastly different growth and deficit positions. The more indebted of them face the prospect of default. For taxpayers at large, bailing out irresponsible borrowers will be no more palatable in America than it has proved on the Continent. Yet who is talking about Illinois abandoning the dollar?
Europe’s leaders have been acutely aware of the risks to their currency throughout the period of turmoil. To interpret their agreement of massive inter-state bailouts and emergency central bank support as a sign of structural weakness is to precisely misread the reality of the situation.
A year ago it was possible to ask, “what would Germany do if asked to bail out Greece? Will the euro survive a sovereign crisis?” Well, we have had two such crises now. The strong states have stood four-square behind the weaker ones, and four-square behind the euro.
Of course, sovereign defaults are terrifying. Market participants are rightly fearful of them, and market prices have moved in response. The euro is some 9% weaker on a trade weighted basis than it was at the start of the year, and the stock markets of Greece, Ireland, Portugal, Italy and Spain have all taken various degrees of battering.
But the French and German markets are up. In fact, the DAX has comfortably outperformed the All Share and the S&P 500.
Above all, the euro has survived – and the events of this year suggest that it is more and not less likely to continue to do so. As another European once observed: that which does not kill us, makes us stronger ..
The textile industry in Britain is not what it once was, so UK observers can be forgiven for making relatively little of the news that the cotton price is on the verge of posting its biggest annual increase since 1973.
Behind the rise is burgeoning demand from China. Now the Chinese have dominated the textile market for years, as they have done so much of the manufacturing sector. In fact, cheap Chinese clothing imports could be relied on to exert deflationary pressure on the UK for the whole of the last decade: the clothing and footwear component of the RPI fell by an average 2.9% per annum over 2000-2009.
Not any more. Last month, the price of clothes and shoes in Britain had risen by 9.2% on the year, just shy of the 9.4% annual rise posted in October – the highest rises in 30 years. Although clothing and footwear accounts for only 4% of the RPI “basket”, the scale of these increases means it made up 0.4% of the 4.5% rise across the index as a whole.
What has changed is that the Chinese are no longer just a nation of export manufacturers; domestic demand has added massively to the pressure on world commodity supply. (The robustness of the domestic economy was behind the surprising mildness of the Chinese slowdown over 2008-9 amid the frenzied collapse of its export markets.)
Chinese demand for construction materials, and raw materials in general, has been an established feature of the commodities landscape for the last few years. But the upward pressure on cotton is new.
What other price pressures will emerge as the populous economies of Asia continue to develop? And how serious will the effect be on the price of goods here at home?
All we can say for now is that such pressures are unlikely to abate as the rest of the world recovers from recession. And phrases such as “biggest annual increase since 1973” are frankly chilling in an inflationary context.
The job of our central banks never seems to get any easier ..