SUNS 4351 Tuesday 12 January 1999

Washington, Jan (IPS/Abid Aslam) -- The advent of the euro, the European currency born last week, is stirring fears in the United States that a new, economic, cold war is in the offing.

While it will be another three years before the euro appears in the form of bills and notes, and the sole currency of at least 11 of the 15 EU members, the euro made its debut as a 'reference currency' on Jan. 1 and began trading in London and other financial markets. As of 1 January at least 11 of the 15 European Union (EU) members. As of 1 January, the countries have bound together their exchange rates irrevocably under the European Economic and Monetary Union (EMU). In British Prime Minister Tony Blair's words, the euro has thus become "the world's second most important currency."

But the euro could have far-reaching consequences for the 'architecture' - the rules and institutions - of the global economy despite its limited immediate impact on the International Monetary Fund (IMF).

Some U.S. economic and political commentators are worried that Europe eventually could lead an assault against the dollar's supremacy and, in turn, undermine U.S. ambitions of political primacy.

The most obvious theatre of conflict would be the foreign exchange reserves of countries world-wide. Nearly 60 percent of these are held in U.S. dollars and it is feared that a new reserve currency will draw away funds currently invested in U.S. securities and used by Washington to finance the $200 billion U.S. deficit.

In addition, "the dollar will have a powerful rival for denominating international trade products, including aircraft, oil, and other raw materials. So long as these were priced in dollars, the United States benefited. It must expect to lose part of that benefit," says author and syndicated columnist William Pfaff.

Henry Kissinger, the former US Secretary of State, recently added his heavy voice to the emerging narrative of fear. "It is difficult to see how the European monetary union can succeed. It is even more difficult to imagine that it will be permitted to fail," he said. Yet, this would "run counter to the Atlantic partnership of the past five decades. "Former British defence minister Michael Portillo, a Conservative, also has argued that Europe is embarking upon a course that "will be at best
un-American and quite possibly anti-American."

Some developing countries like Thailand have signalled their intention to shift a portion of their reserves from US dollars to the new currency, but a larger movement almost certainly will be gradual, argues Robert Solomon, guest scholar at the Brookings Institution, an influential Washington think-tank.

"Central banks around the world would certainly avoid large sales of dollars and purchases of euros, since that would tend to lower the value of their remaining dollar holdings," Solomon said Thursday.

The prospect of dropping demand for dollars is fuelling speculation that a slip in the currency's standing would impede efforts to secure the US place as the world's "indispensable" nation, as US officials describe it.

"Hegemony generates opposition," and Europe "is the only international actor seriously capable of challenging the United States," says Pfaff.

Europe will be driven to take on the United States, albeit reluctantly, because of "irreconcilable conflicts of interest," including the euro and increased rivalry in strategic industries, he argues in the current issue of 'World Policy Journal', published by New York's New School University. He sees tough competition ahead in commercial aircraft manufacturing and in military air, missile, and space systems.

Since stability will be key to the euro's success, Brown University political economist Robert Wade expects stiffening European opposition to the U.S. vision of free financial markets.

Europeans see monetary union as, "above all else, a political project, and they are prepared to incur sizeable economic costs in order to sustain it," Wade says in the current issue of the journal 'Foreign Policy'. "They will do whatever it takes to keep the euro and monetary union on track in the face of the current global crisis, including controls against surges in capital flows."

In the long run, the euro could prove irresistible as a reserve currency. As economist Lester Thurow noted last year, security is the key concern for foreign investors in the United States. The United
States, considered as a bank, "runs a trade deficit of more than $200 billion a year and owes the rest of the world more than one trillion dollars. (Europe) runs a trade surplus with the rest of the world and is owed money by the rest of the world. In which bank would you rather hold your money?"

Whether or not fears of a new economic cold war prove justified, argues Pfaff, Washington has an opportunity to do some soul-searching.

"The hegemon is invited to pride and excess from within and suffers envy, resentment and threat from without. But how gracefully to cede the hegemonic claim?" That question has not been addressed, he says.
"Nor is it often asked whether we have moral and intellectual resources adequate to the hegemon's role.
Consideration of these matters now could prove of value when the discovery is eventually made that the 21st century is not an American century."

Robert Solomon, guest scholar at the Brookings Institution, a Washington think-tank points out that "for the first time since the Roman Empire, a good part of Europe has the same currency."

That sets the stage for a possibly bruising new round of fights over the way the global economy is run - and especially over the US vision of free financial markets, according to Robert Wade, a political economist at Brown University. Europeans, says Wade, "will do whatever it takes to keep the Euro and monetary union on track in the face of the current global crisis, including controls against surges in capital flows."

Capital controls have gained widespread acceptance in academic, political and business circles after nearly two years of global economic turmoil, but the official US position and the prevailing winds on Wall Street blow hard against such controls.
For no small reason. "The United States needs to tap the rest of the world's savings, which is much easier to do if world financial markets are highly integrated," says Wade. "The U.S. savings rate is extremely low by international standards. ... To maintain its high levels of consumption and investment, the United States must borrow from the rest of the world."

"The alternative - financing investment via higher domestic saving - would require a sharp cut in consumption (to allow the extra savings), causing massive recession," he adds.

U.S. proposals for a new 'architecture' of global finance call for transparency, accountability and uniform standards across national borders. This, officials here maintain, should suffice to ensure the
free movement of capital with minimal instability.

The EU, however, has evoked a world of monetary zones, each with some degree of protection from 'hot' money, an idea supported by many Asians. "The growing convergence of views between Europe and Asia on such proposals is under-appreciated in the United States," says Wade.

Warmth for capital controls is not simply a matter of Asian governments seeking to shield their economies from sudden influxes and outflows of speculative capital, Wade argues. It also "is based on the realisation that Asian economies do not need to draw on the rest of the world's savings."

Asians "are the world's biggest savers (typically saving 35 percent or more of gross domestic product (GDP), compared with the United States' 15 percent). They cannot productively invest even their domestic savings, let alone the extra savings that come from abroad," Wade notes in the current issue of the journal 'Foreign Policy'.

At the annual meetings of the IMF and World Bank here last October, European officials scarcely concealed their contempt for US assertions that capital controls impede economic growth. Most members of the Organisation for Economic Cooperation and Development (OECD) had such
controls until the 1980s, long after achieving wealthy-nation status, they countered.

IMF officials have urged caution in pursuing financial market liberalisation. They acknowledge that some capital controls may be necessary to help countries through the transition. But so far, only
the pace of change has been offered for discussion - not the goal.

No adjustments are being made in the composition of the IMF's executive board or the distribution of votes among members. It remains to be seen whether monetary unification will result in greater solidarity and assertiveness by Europeans on the board.

Also to be seen is whether they will make common cause with developing countries wary of unfettered capital markets, described as a "wrecking ball" by George Soros, the billionaire speculator.

A representative of the European Central Bank "will be invited to board meetings on issues covering common monetary and exchange rate policies of the euro area," the IMF said in a statement. Since the IMF's 'Articles of Agreement', or charter, confines membership to countries, "the Euro area will not be able to appoint a governor nor appoint or elect executive directors in the IMF."

"When it comes to monetary policy, the IMF will have to consult with the ECB (European Central Bank)," says Solomon. "On exchange rates, the relations with the IMF will be more complicated. ... Representation in other fora such as the OECD, Group of Seven (leading industrial powers) .. and similar councils will also be complicated."

Of the 11 Euro countries, Germany and France have their own seats on the IMF's 24-member board. Belgium represents itself and Austria; Italy also represents Portugal. Luxembourg, the Netherlands, and Spain represent themselves but their executive directors also speak for a number of non-European countries. Ireland is represented by Canada and Finland is represented by Denmark.