I just wrote a column that I hope will get published in Barrons Newspaper’s “Other Voices” column. I just finished it and as I was searching around for something to write this morning, I realized I had a “get out of column free” card. However, the article was written for an audience of Wall Street types (the people who read Barrons), so I decided to rewrite it for, you, the Cant audience. The Barrons column is based around the fact that the Euro (the common European currency) dropped pretty steadily since its creation in Jan 1999. The decline of the Euro has been much discussed and speculated about, but very few people have found a compelling explanation for why it would have dropped like that and never really come back.
First a little background, the Euro is essentially a theoretical currency right now. The exchange rates between currencies that combine to make it up have all been set, but the physical paper currency hasn’t been issued yet. The paper currency gets distributed on Jan 1. 2002, and you have to have all of your Deutsche Marks, French Francs, and Pesetas all gathered up and turned in by March 31, 2002.
Well the currency was launched with much fanfare, and began to sink like a stone against, among other things the U.S. dollar. (Which means that visiting Europe has been really cheap, recently.) People have been struggling to come up with a good reason why. Some people pointed to the booming US stock market as a reason that the dollar was highly valuable against the Euro. (1) But the stock market hasn’t been a terribly attractive place to invest recently, and the Euro is still down something like 22% from its introduction. There are also a whole bunch of other possible explanations put forward that are much more technical and complex, none of which have I found to be very compelling.
My idea is comparatively simple. The German currency, the Deutsche Mark (DM), has been very solid for decades. And like the US dollar, people in countries which are less stable that Germany and the US, use these hard currencies as a form of savings. They stick the DM in a mattress or coffee can, and leave them for decades. In many places, particularly in Eastern Europe, the DM was a mattress currency, right behind the Dollar for tucking away for a rainy day. There are two properties that a mattress currency must possess; it needs to hold its value well against other currencies and inflation and it needs to be physical. Individuals must be able to hold it in their hands, or tuck it in their mattresses. The Euro failed on the second count–it isn’t a paper currency yet.
And as of March 31, 2002 all those DM outside of Germany will be worth ..well…the paper they are printed on. So what have those people with a coffee can full of DM been doing? Selling them for whatever they can: dollars, yen, British pounds, furniture, cars, the local currency, food…anything really. And for people in possession of Deutsche Marks it is very logical; even computer equipment will have retained its value better than a paper DM bill by the middle of next year. And I think all these DM coming out of hiding and being traded for other currencies or German goods, is driving down the value of the DM and with all the currencies that are tied to it.
There were about 90 Billion DM out there in 1995, that’s enough to buy most of the 2000 German trade surplus. And, I think, enough to push the Euro down 22%.
1) Economics lecture: If foreigners invest in the US stock market that must first buy dollars with their foreign currency, which drives up the price of the dollar in terms of the other currency. So having a lot of foreign investment in the US stock market makes the US dollar more valuable. Because the US stock market was booming though most of this period, it becomes an attractive place to invest.
Columns by Red