Populism Threatens Eurozone Stability
European Central Bank (ECB) President Mario Draghi faces opposition on multiple fronts as French populism surges. Presidential candidate Marine Le Pen threatens to stop participating in the euro if she is successful. Several large banks are scaling back on lending to EU countries to prepare for additional exits from the EU. France and Italy are both at risk of breaking away if the polls are correct. Germany is pressuring Draghi from the opposite direction, asking for higher interest rates to promote regional growth. Meanwhile Greek politicians are contemplating a default on the bailout that the country was given two years ago, in an effort to boost their economy.
France Considers Dropping the Euro
Right wing National Front candidate Marine Le Pen is currently the front runner for the French elections scheduled for April. Her position was strengthened due to a scandal involving Conservative Francois Fillon. Fillon pledged to reduce the number of civil service employees who are often depicted as performing little actual work. However his family members now stand accused of accepting 800,000 euro in payments for questionably valuable work. This conflict led almost 70 percent of the French public to call for Fillon to drop out of the race.
If Le Pen can win both rounds of the upcoming election, she has promised to bring back the Franc. Her economic advisor, Bernard Monot, explained her plan to renationalize the French Central Bank and fund government spending by introducing additional currency into the economy. Although Monot acknowledged that withdrawing from the euro would increase the costs associated with government borrowing, the switch would bring down the cost of the franc relative to other currencies, making French goods look more attractive.
Monot asked, “What’s worse? A reasonable rate of inflation or the near-deflation we’ve been living in?”
Italy Set to Follow EU to New Monetary System
If France pulls out of the euro successfully, this could encourage Italy to do the same thing, as they face similar problems of a stagnant economy and high national debt. Italy rejected a constitutional referendum in December which would have reformed the country’s constitution. This led to a political collapse for then Prime Minister Matteo Renzi, who resigned, paving the way for right wing candidate Beppe Grillo. Grillo has pledged to hold another referendum this year to replace the euro with the lira.
Draghi Tells France and Italy that EU Membership Means Euro Currency
Draghi had harsh words for Le Pen and Grillo in comments given to the European Parliament Committee on February 6th. The current laws related to EU membership do not allow member states to choose an alternative currency to the euro. Per Draghi, if France or Italy want to leave the common currency, they would have to go through the full Article 50 process, as the British government has now begun. However EU legislator Marco Zanni, referenced a letter he received from Draghi in which the ECB President listed requirements for a country to leave the euro system, including settling any claims between that country’s Central Bank and the ECB.
Germany Feels Punished by Its Success
Germany, the EU’s strongest economy, is also fighting against Draghi’s economic policy. Draghi announced that the ECB is capping interest rates until core inflation improves. Without higher rates, it is difficult for Germany to grow its economy, which also contributes the most to help out underperforming countries like Greece. German economists are looking at euro zone inflation numbers, which are the strongest they have been in three years. However, Draghi believes this reflects short term improvements versus long term gains, and stands behind protectionist policies until European growth proves to be sustainable.
Greece Could Stop Loan Repayments in Continued Fight against Austerity
Greece also presents a challenge for the ECB. After receiving a 72 billion euro bailout, the country threatened to leave the EU in the face of continued austerity measures. Unfortunately, two years later the Greek economy has not improved appreciably and the loan payments are coming due. Some Greek politicians have suggested that payments on the loans should stop until the EU can provide better terms. If Greece continues on this path, EU members could be denied assistance if they face an economic crisis.
How Do the Recent ECB Actions Affect Trading?
Populist sentiment has reduced trade between EU countries, and has also diminished support for the ECB. The euro is currently dropping against the dollar and the pound, as investors worry about the currency’s stability. The London FTSE index is also experiencing a negative trend. Worries are growing about France and Italy following the U.K. out of the door, impacting trade for multiple companies. Until the results are in for the French and Italian elections, investors may choose gold over the euro.