The Election Circus Crosses the Eurozone

March 8 2017

In less than two weeks, the Dutch will go to the ballot box. Just a month later, on April 23, the French will follow suit. They will have to vote in a first round who their new president will be to, later, on May 7, during the rather likely second round make their final decision on who will become the new president of the French Republic. After two months of ballot box peace, the French will then go on June 4 and 11 again, but now to vote for parliament. Late September it will be the Germans; our eastern neighbors will elect both a new parliament and a new Chancellor.

There are two remarkable facts about the above-mentioned elections. In the first place, we have national elections in both France and Germany in the same year. That is the exception rather than the rule. The second remarkable and from a political and monetary perspective extremely relevant fact Is that in all three mentioned countries various parties and movements participate that wish to leave the euro, if not the entire European Union. One could say that the elections up to a point will be referenda on the euro. And what is remarkable is not just that these parties and movements participate: it seems very likely that they will gather quite some votes.

In Germany, the Alternative für Deutschland appears to win more than 10 percent of the vote. In the Netherlands, it is highly likely that the Freedom Party (PVV) will win the elections, which wants to leave both the euro and the EU. In France, Front National seems to score well in both the presidential and the parliamentary elections.

At first sight, it thus seems that the Dutch, French and German elections will lead to much instability and uncertainty regarding the future of the euro. Front National has already revealed its plans. Part of its plans is to exit the euro with France and return to the French franc. The PVV wants the same thing in the Netherlands, while in Germany the AfD wants to leave the euro as well.

No Anti-Euro Governments

Yet things are never as black as they seem. The probability that an anti-euro party or an anti-euro bloc will end up with a majority in these countries is rather small. That probability is smallest in Germany, where the AfD appears to gain too few votes to even be considered as a possible coalition partner. And that with the knowledge that the other parties want to avoid the AfD at any cost.

In France, it seems that Front National will score well, but that will translate into a disappointing number of seats. The reason is that French elections always require that the winner gains more than half of all votes, something that rarely happens in the first round. This means that the presidential candidate of Front National, Marine le Pen, will probably score well in the first round, but is bound to lose in the second round whoever her opponent may be, simply because all the other parties will unite against Le Pen in a second round. The same conclusion holds for the French parliamentary elections. France is divided into the electoral districts and every district sends a representative to Paris. But the same rules apply as in the general election, which means that if no candidate receives 50 percent of the votes + 1 in the first round, a second round will be necessary. In a second round, a candidate of Front National is at any rate likely to lose, due to the exact same reason as with the presidential elections.

In the Netherlands, various parties compete on March 15 that want to restore the guilder restored on March 16. Besides the earlier mentioned PVV, the Forum for Democracy (Forum voor Democratie) and VoorNederland also declared that they want to leave the euro. However, it is highly unlikely that an anti-euro bloc will receive a majority of the votes.

The Euro Is, Nonetheless, Not Safe

The danger that a country leaves the euro in the near future is quite small. I suspect that on the eve of the earlier mentioned elections, markets will suffer from some uncertainty regarding the future of the euro, but such uncertainty will prove to be temporary. In other words: the euro is not in danger. For now. Having said that: the likelihood that the euro ceases to exist in the long run should not be underestimated.

A couple of arguments could be advanced to defend this statement. First, there is the current ECB policy, which is becoming increasingly unpopular in euro countries and citizens, since the policy is having a growing negative impact on various important population groups. Pensioners are seeing, for instance, their pensions cut or at least not corrected for inflation. The pain will be much worse in 2017 because inflation, for the first time in years, will be notably higher. The same applies to savers. In 2014 and 2015 the real return on a savings account (interest rate on a savings account corrected for inflation) was still about 1 percent. In 2016 real returns already dropped to between 0.3 and 0.5 percent.

While during the past few years savers might not have been very happy with interest rates though not really suffered (I will conveniently ignore any capital gains tax), this will change in 2017. Interest rates on savings accounts will not increase (will most likely not decrease either), but inflation has been rising quite a lot and the expectation is that inflation will continue to increase. While inflation in the Eurozone amounted to zero percent or less a year ago, consumer prices are currently rising almost 2 percent annually in the monetary union. And that means that the real return on savings is negative. In addition, we are charged that wretched capital gains tax.

Furthermore, there is a dissatisfaction about the euro in the strong euro countries because the image exists that the weak euro countries are coming away with reckless and irresponsible policies and are refusing to better their lives. All this at the expense of the taxpayer in the strong euro countries. What in the strong euro countries therefore makes for bad blood, are the increasingly louder calls for a fiscal and political union in the Eurozone. Proposals for a fiscal and political union are even being prepared. This month, the European Commission is coming for example with a proposal to introduce so called Eurobonds, government bonds issued by Brussels or the euro countries together, where every individual member country backs or guarantees the debts of the other member countries.

Support for the Euro Is Dwindling

Simultaneously, dissatisfaction about the euro is growing in the weak euro countries because the sentiment is that strong euro countries are exercising too much influence on the domestic government policies of weak euro countries.

In line with the above, we can observe that the support for the euro is dwindling across the Eurozone. Periodically, the European Union surveys citizens of both euro as EU countries. In the most recent survey, the Eurobarometer reveals that support for the euro is diminishing. A third of the respondents thinks that the euro is bad for their country. 56 percent called the euro a good thing, which is the lowest percentage in years. That a third of respondents prefers to leave the euro should soothe any possible worries about an imminent collapse of the euro: after all, if all these people would vote on anti-euro parties, then their countries would still remain members of the currency union. While keeping in mind that the earlier mentioned further growing dissatisfaction with the euro in both the strong and weak euro countries, it should not surprise anybody that in a future election in for instance the Netherlands or Italy an anti-euro bloc will reach a majority.

A remarkable outcome of the Eurobarometer is, by the way, that support for the euro is growing in Germany. This seems strange: the Germans were always skeptical and distrusting about the euro, because their beloved and well respected German mark had to be given up to make way for the common currency. Nowadays, 64 percent of Germans is positive about the euro, the Eurobarometer shows. Just one in four thinks the euro is a bad thing for Germany.

This is comforting, just on the eve of the German elections. It also explains why the AfD seems to score less well than its peers across the border in France and the Netherlands. If the probability that Germany exits the euro would rise, then that would of course mean the end of the currency: the euro cannot exist without Germany.

Germany Is Crucial

What might be worrying, however, is that the increasing German support for the euro has everything to do with the well-performing German economy. When the German economy was in shambles, the general support of the euro was weak as well: the Germans saw the currency as the culprit. Now that Germany has recovered, the euro is generally perceived as positive, especially because many realize that the German economic recovery would have been almost impossible without the euro. If, instead of the euro, Europe was still awash of Italian lira, Greek drachma, and Spanish pesetas, German exporters would have had a terrible time. In a country that belongs to the world’s best exporters, that makes quite a difference.

This means, nevertheless, that if the German economy loses momentum, the support for the euro will also diminish and the popularity of anti-euro parties will probably rise. The likelihood of such a scenario is getting higher because, as mentioned earlier, the painful consequences of ECB policy are beginning to be felt.

I expect that the euro will survive the 2017 Eurozone elections. But in the longer run, I deem it highly likely that the anti-euro forces will become stronger and that the monetary union will eventually collapse. I am not surprised that large banks, such as ING, are considering such an event and already take precautionary measures.

In the short run, one thing is almost certain: the ECB will use the elections and the possible uncertainty about the election results as another reason to leave monetary policy unchanged, despite the fact that inflation is rising. The central bank will at the slightest doubt not hesitate to make its monetary policy even more expansionary. In the most favorable scenario, a less expansionary ECB monetary policy might become a possibility at the end of 2018 or even 2019. That means, in concrete, that interest rates in the Eurozone will remain low or might even drop further. In the short run this is nothing short of a declaration of war against the saver; in the longer run it should not surprise anybody when this policy causes higher inflation. Perhaps it is worth it to consider an (additional) inflation insurance, especially since the insurance premiums (that is, gold prices) are still, relatively, low.

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