Legacy exchange rates
Eoin Treacy's view Government bonds spreads have come under renewed pressure following the results
of the Greek and French elections. There have also been negative repercussions
for many stock and commodity markets. I thought it might be instructive to review
some of the relevant spreads and legacy European cross rates in order to put
some of the recent market action in context. I last posted charts of legacy
exchange rates for various Eurozone countries against the US Dollar and Deutsche
Mark in Comment of the Day on December
19th 2011 and September
30th 2011 respectively. Both are now available in the free public archive.
There
is a high degree of commonality when comparing the performance of the Franc,
Lira, Peso,
Escudo, Drachma
and Punt against the Deutsche Mark prior
to the adoption of the Euro. Each country relied on a persistently weak currency
compared to the Deutsche Mark to remain competitive. On accepting the Euro,
they swapped their right to devalue for access to cheap credit. This was reflected
in the convergence of French, Italian,
Spanish, Portuguese,
Greek and Irish
spreads over German Bunds as countries adopted the single currency.
The
essence of the problem today is that countries did nothing in the intervening
decade to improve their competitiveness versus Germany while concurrently gorging
on credit. As government bond spreads have returned to where they were before
the creation of the Euro, and some cases considerably above them, countries
are being forced into austerity without recourse to the traditional devaluation
option. Electorates are increasingly voicing their opposition to accepting increasingly
stiff bouts of spending cuts, wage cuts and higher taxes. Just how much more
austerity populations are willing to take is perhaps the greatest unknown within
the context of the Eurozone crisis. At some point debt forgiveness will almost
certainly need to form part of the solution to this crisis if, as appears likely,
political will to support the project remains.