LOSING THEIR RELIGION:

Euro strong but endangered (Martin Hutchinson, 11/21/2003, UPI)

The Cato Institute's 21st annual monetary conference Thursday, on the future of the euro, achieved more or less unanimous consensus: the euro can be expected to be very strong against the dollar in the next two years, soaring to $1.50 or more, but is in severe danger of disintegration in the long term.

As Kenneth Rogoff, former chief economist of the International Monetary Fund said, the euro was "a religion" and many of the reasons for inventing it in 1998 were non-economic. Nevertheless, it has had a fairly successful first 5 years, and now looks likely to be very strong against the U.S. dollar, because of the U.S. trade deficit, now 5 percent of gross domestic product, and the likely increase in the share of central bank reserves denominated in euros. [...]

In the longer term, however, the euro has serious structural weaknesses, because of the unfounded pension liabilities in a number of eurozone countries. This would not be such a big problem if all countries of the euro zone had the same problem; the currency would simply enter a period of serious structural weakness and substantial inflation, as the problem was overcome.

Jose Pinera, Chilean health minister 1978-1980, and instigator of the world's first privatized pension system pointed out that in the eurozone this was not the case. Some eurozone countries, Finland, Ireland and Luxembourg, have sound public finances, and others, such as the Netherlands (and, outside the eurozone, Britain) have substantial well funded private pension systems. However, there are a number of core eurozone countries, in particular Germany, France, Italy, Spain and Austria that have pay-as-you-go public sector pension systems, which appear attractive in their early years but the bills for which are now coming due as baby boomers retire and birth rates have fallen substantially below replacement levels. Immigration may mitigate the problem somewhat but is unlikely to solve it, since a solution would require that in 2030-50 young immigrants would be paying very high taxes to fund the social costs of aged locals -- a prospect unlikely to be politically feasible.

The long term solution to this, according to Pinera, is for these countries to move to a privatized, fully funded pension system, similar to that now found in 23 countries, and abandon the pay-as you go system, originally invented by German Chancellor Otto von Bismarck, who now "threatens to damage Europe in the 21st Century by this invention as much as he damaged it in the 20th by his other invention of a militarized German super-state."

Not every country is lucky enough to have a Pinochet.

Posted by Orrin Judd at November 22, 2003 3:37 PM