What Happens if the Euro Collapses?

A monster topic, summarised in only 500 words. Undoubtedly, the implications of a euro collapse would be many more in quantity than examined here, but this article is simply intended to provide a concise yet useful insight into the problems and changes that may ensue if the currency were to crash.... and they would be significant.

A collapse of the euro would cause disruption on an unprecedented scale. Be the downfall partial or complete, sudden or controlled, the aftershocks would tremor a plethora of variables, making it nearly impossible to accurately and specifically predict the various outcomes. Both national and global macroeconomic, political, technological and social factors will evolve over time, and therefore any conjectures must be considered against a complex, dynamic and uncertain context in the long-term.

In the short-term, ING predicts that were the euro to collapse in 2012 and the drachma to be quickly re-introduced (itself a significant technical challenge), by 2016 Greek currency would depreciate 44.3% against today’s sterling. Such depreciation would allow weaker member’s exports to become more price-competitive, in the long-term strengthening these economies.  This would, however, be balanced against increased imported, and probably, engineered inflation, likely created by using revived monetary independence to implicitly erode real national debts. Notably, low wage growth beside high inflation would lower the standard of living.

In contrast, stronger economies, both in and outside the eurozone, would witness currency inflows much larger than that which stirred the Swiss central bank to peg the Swiss franc at a maximum of 1.20 francs to the euro in September 2011. Scrambles by investors and the population to avoid write-downs on assets due to forced currency conversions in weaker nations would create a need for countries to impose strict capital flow restrictions and/or tariffs to prevent crippling out/inflows of currency depending upon their perceived security, as exemplified by Czechoslovakia in 1993. Such urgent measures may provoke costly lawsuits with aggrieved investors, decrease trade and liquidity and increase political friction, possibly sparking retaliatory currency wars larger than as between China and the USA in 2010 concerning the undervalued renminbi.

Still, a worst-case scenario is that capital controls are ineffective. If a bank run occurs, investor and consumer confidence will plummet, banks will collapse, governments probably default and a European depression almost inevitably ensue. 21% of U.S. and $280 billion of Chinese exports are to the EU (WTO), and thus a European depression would slow most of the advanced world. A global credit crunch less sudden, but of a much greater magnitude, than in 2008 would develop and linger.

Furthermore, as the euro has been the keystone of the post-war European integration project, any member causing a break-up may become a pariah state. In the long-term, increased competitiveness and a decreased interdependence of Eurozone nations may also spur increased tensions and hostilities, jeopardising even the EU and single-market.

In 2011, Portugal’s productivity per hour worked was 45 percent lower than the eurozone average; the Netherlands’ was 37 percent above (ONS). The fiscal and economic disparities between the eurozone’s core and periphery will not disintegrate alongside the euro: they are culturally, socio-economically and even psychologically engrained, at least in the short-term. Scars of a collapse would ultimately heal however, and for the mutual benefits of trade and political convergence, it is likely that eventually, something similar would replace the euro.