Thoughts on the Euro’s Outlook in 2013

Despite the numerous predictions of its demise, the euro is alive and well at the end of 2012. Indeed, it has again held its value against other currencies during the year,1 confounding skeptics just as it did a year ago. As 2012 comes to a close and the last European Union Council of the year has ended—there have been seven in 2012!—it is time to take stock. As someone who ended 2011 on a positive note for the euro, I am happy to report that the outlook remains positive for 2013.

Pessimism will never go out of style, of course. The next year will no doubt be littered with more predictions of gloom from commentators with limited appreciation of the core political nature of the euro area crisis, or with incentives to predict the worst. The business model of certain euro “tail-end risk merchants” seems always to predict disaster 18 months ahead to secure maximum media interest in their op-eds, and revenues from their conference speaking fees and consulting businesses. Some European commentators make a living out of selling “political intelligence” to English-speaking financial market participants. For these characters, the worse the euro area crisis is, and the more obstinate Chancellor Angela Merkel and Germany appear to be, the better business will be.

In the United States, liberal commentators like Paul Krugman have an equally perverse incentive to declare that austerity has failed in Europe. Their perhaps laudable motive is to help the political case against the GOP’s (disastrous) fiscal plans in Washington. Rarely, however, does this group consider the wasteful consequences of reflating structurally unreformed euro area economies. What they do not understand is that unlike the United States, the euro area core and periphery suffer from more than a “demand problem.” Yet at least Krugman and other liberals are intellectually consistent when criticizing euro area austerity. Various US and British conservative commentators have no such cognitive concerns. They happily condemn euro area Depression-era policies, while praising the similar fiscal policies of their own GOP and Chancellor of the Exchequer George Osborne in the same breath.2

The euro area doom stories in 2013 will likely revolve around the “Grexit/Spaxit/Portxit/Finxit/Brixit” form. That is, English-speaking market economists in the City of London or on Wall Street will pontificate about the euro area breakup or the rush by Greece, Spain, Portugal, Finland, and Britain to return to their national currencies. These predictions rest on the dubious assumption that the 1930s are here again, and that economically distressed euro area populations correspondingly can again be expected to make rash and dangerous political choices. But in all euro area elections in 2012 in which incumbents were booted out, centrist and pro-euro governments replaced them. The simplistic and economically deterministic belief that populist anti-euro governments will be voted into office ignores decades of successful consensus building by the European elite, and the risk averse nature of an aging and still prosperous European electorate. Most voters will not take a chance on a new drachma, lira, or escudos. Market participants betting on the opposite will continue to lose money in 2013. Unjustified disaster scenarios can still be valuable, on the other hand, if they add pressure—in a non-threatening manner—on EU policymakers to do the right thing.

What were the most important developments in December 2012 and what do they tell us about 2013?

For Greece, 2013 Will Be a Year of Muddling Through

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