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Posted 11/1/2004
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Europe embraces a strong euro; that's big news
A higher euro means imports will be more expensive as the dollar falls, leading to higher inflation down the road.
By Bill Fleckenstein
I believe that in hindsight, we will look back on a news story from Oct. 21 as the biggest development in the foreign-exchange market of the last 19 years, since the Plaza Accord of 1985.
In the Oct. 21 report, Bloomberg News reported that Dutch Finance Minister Gerrit Zalm, prior to chairing a meeting of the European Union ministers, said the euro's advance was "not an issue." When asked if worried about the currency trading at $1.30, he replied: "It is good for oil prices."
Finance ministers are usually more political than central bankers, which makes this statement from Zalm more powerful. And, the sentiment was echoed by many of his colleagues, including:
French Finance Minister Nicolas Sarkozy: "A strong currency is better when commodity prices are high."
European Commission President Romano Prodi: "Certainly the euro is very high at this moment, but it's not true that European trade is bad. . . . (The euro's increase) has been some sort of protection (against oil costs)."
Spanish Economy Minister Pedro Solbes: "(The euro's rise) could help to offset the oil price rises in terms of inflation."
These comments reflect a transformed mindset on the part of the European authorities. It was only last February, when the euro was peaking around $1.28, that they feared its appreciation would short-circuit their economic recovery. At the time, "brutal" was European Central Bank President Jean-Claude Trichets description of the currency's move. But in reading the previous comments, it is clear that, in the last nine months, their psychology has undergone a sea change.
Cottoning to a firmer currency
Why do I think this is such an earthshaking development? It has been clear for some time that the dollar was headed lower. And it's relatively straightforward to recite all the dollar negatives. (For more, see my articles The dollar is on borrowed time and The sliding dollar is already costing you.)
But what hasnt been seen is any country willing to accept the hot potato, i.e., a stronger currency.
Now you have a choice between the world's most-owned currency, namely the dollar (which is headed lower), and the euro, a rather "deep currency" that's arguably underowned and whose stewards are acknowledging that a higher currency is acceptable.
Obviously, the Europeans have recognized that a stronger currency is going to hold down the price of oil and other commodities. (This is exactly the point I was trying to make recently in a daily column about the Japanese. Especially since they are just middlemen to begin with, they ought to figure out that a strong currency is good for one's country.)
The question is, will other central banks start to realize that it's not so bad if their currencies go up, and will we see further reduced dollar-buying and/or dollar-selling? We've seen the central banks of Korea, Singapore and India also make comments that are not dollar-friendly.
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En route to dollar dethronement
In any event, it is a virtual lock now that the euro is going to trade higher. Among other things, that will make European imports more expensive. (Of course, now that I've said that, the euro will probably go lower first.) On Oct. 25, a Monday, foreign currencies exploded higher against the dollar when they opened for trading (and all closed up 1%). That struck me as important, as the market action seemed to corroborate the view that this analysis was correct.
Oftentimes in markets, when a seemingly subtle yet momentous change occurs, it appears to get shrugged off or ignored. Then, you see a delayed reaction shortly thereafter, confirming that psychology has indeed shifted. This was one of those times, in my opinion.
For those who don't have positions in the euro (or gold, which I believe will do even better, as the euro has plenty of flaws, just fewer than the dollar), or who'd like to build the ones they have, every serious dip in the euro (and gold) can be bought. It's now only a matter of time before the dollar slide begins to accelerate. The dollar, the stock market and the economy are on borrowed time.
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