The Euro Didn't Fall Enough

The Economist (July 23rd) is publishing the latest version of its Big Mac index here.

The most overvalued currencies, relative to the dollar, are first the Norwegian krone (by more than 90%), then the Swiss franc (by more than 60%), the Brazilian real (by 31%), and then, yes, the euro (by 16%, which implies a PPP exchange rate value of 1.08 dollars to the euro, instead of the current 1.29). Personally I would say that a value closer to one dollar for one euro, or even less than that, would be preferable for the health of the Eurozone economies.

The most undervalued currencies are, in that order, China’s yuan (unsurprisingly), the Hong Kong dollar, and Argentina’s peso, all of which having to be doubled, or a little bit more than doubled, in dollar value to return to approximate PPP levels.

The debate of last spring on the future of the euro, initiated by the French government for the twin purposes of saving French and German banks from possible failure (due to excessive lending to the Greek government) and depreciating the euro -- against the will of the ECB --, had the immediate virtue of weakening the euro and boosting German exports.

But unfortunately it has been stopped, deliberately I believe, much too early. With a euro at its PPP value, and the economy accordingly returning to sustained growth, the next elections, in Germany and in France, were still winnable by incumbent conservative majorities. With the euro at 1.30 dollars or so, the expansionary effect on the economy is much too limited to secure such an outcome, and the time schedule is now much to short for another monetary policy initiative to be launched.

The weakening of the euro was the right policy, but the politicians did not have the guts to pursue it to its logical term. Now they should not complain if in two years time commentators tell them “it’s the economy, stupid!”