JOHN MASON - Europe's problems and EUR/USD


Europe's problems and EUR/USD

One number tells it all.

It now takes less than $1.14 to buy one Euro.

On February 1, 2018 it cost more the $1.25 to acquire one Euro.

In December 2016, just a couple of weeks after Donald Trump was elected president of the United States, in only took around $1.04 to buy a Euro.

In that December, president-elect Donald Trump started talking down the dollar. A “weak” dollar fits into his plans.

And, as we saw the value of the dollar fell against the Euro.

What happened in February of 2018?

Four things became obvious: first, the United States economy was showing that it was beginning to accelerate some; second, this acceleration was providing the “data driven” Federal Reserve the “data” to support continued increases in the Fed’s policy rate of interest; three, the economies of the eurozone were not as strong as they seemed and their economic growth was actually decelerating; and four, the European Central Bank was going to back off ending its version of quantitative easing.

The change in direction of the dollar value captures all the above information.

The translation: the US economy was doing well and the economies of the eurozone were a mess.

The US situation is evolving, bringing with it its own complications, which will have to be worked out in the future.

The European problems are much deeper and much more difficult to resolve.

One can start out with the events taking place in Italy, because of what is going on in Italy reflects, in my mind, the basic issue undermining the building blocks of the whole European community.

But, the European problem is not just the problem of Italy.

As Isabelle Mateos y Lago, the chief multi-asset strategist at BlackRock and a former IMF official, writes in the Financial Times, “The European Commission has rejected Italy’s draft budget.”

“The episode brings back memories of the confrontation that took place in 2015 between the freshly elected Greek government and European officials.”

“And the latter’s response in the Italian case suggests they plan to adopt a similar approach this time around: stare down the populists and wait for market pressure to become intolerable.”

In other words, the “European officials” are doing what “European officials” do best…kick the can down the road.

Which brings us back to the creation of the European community.

The European community does not have a central governing body that can create a common budget and economic policy. And, the European community does not have a unified banking system.

Consequently, we are going to see this “play” over and over and over again.

But, there is one other thing that could evolve out of the current European “situation.”

Jack Ewing brings this up in his opinion piece in the New York Times. Investors and markets learn from situations and adapt and innovate.

“But,” Mr. Ewing writes, “there are many ways that local meltdowns can go global.”

He continues: “Bankers are always inventing new ways to make money spawning new financial hazards.” For example, there are “the dangers of so-called shadow banking: financial transactions by hedge funds, private equity firms that have acquired huge financial power but are lightly regulated if at all.”

He quotes from the board of the Financial Stability Board, “New forms of interconnectedness have emerged that could, in some scenarios, act as channels for domestic and cross-border amplification of risks.”

Since the 1960s, financial markets have shown how resilient they can be, how inventive they can be, and how they can change the nature of the way things are done through financial engineering and the financialization of economies.

We live is a world that has transitioned from a past that was less open and less mobile. And, unfortunately, politicians and regulators always seem to be fighting the last war.

Here Europe can become its own worst enemy. The European community couldn’t pull itself together in creating the union and produced an uncomfortable situation in which discontent with the system has risen in the form of a populist revolt.

But, the efforts of the populists are doing nothing but making a bad situation worse, which only leads to the opposite of what they want.

And, if officials and regulators cannot adapt to the new environment that has arisen, the cracks in the surface that have resulted will only grow.

People that have read my articles in the past know what emphasis I give to the spread of information and how this process leads to more and more globalization, in one way or another.

In this world, a community must build together or it will fracture because of initiatives that grow out of the fissures and disequilibrium that are emerge. Nations must either give up much of their sovereignty to work toward the common cause, or they must fry in their own discontent.

The dollar/Euro exchange rate is capturing this situation. And, the US dollar is staying strong in spite of Mr. Trump’s desire for a weaker US dollar.

Mr. Trump has taken that battle, right now, to a criticism of Federal Reserve chairman Jerome Powell. How much further he takes his discontent is uncertain, but it is highly likely that he will take it farther if, for one, the value of the US dollar continues to strengthen.

Two problems here: first, the strength of the dollar, as I have pictured it, is a result of the problems in Europe and not caused by the Federal Reserve: and second, as the lead editorial in the Wall Street Journal states, what he (Mr. Trump) has been doing will lead to the opposite of what he wants,” Just like other populists trying to ease the discontent.


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