Dear reader,


What if Mark Carney, former governor of the Bank of England, had implemented the wrong monetary policy, deliberately?

What if interest rates were set wildly out of synch with Britain’s economy, on purpose?

Well, if this was the case… if he’d really kept interest rates far too high or far too low…

… there would’ve been chaos in the economy and furore on the streets. We’d have accused the Canadian of sabotage.

But in the eurozone, the wrong interest rate is an inherent part of the system.

Because all those countries with their completely different economies share the same interest rate – set by the European Central Bank (ECB).

Not only that, they also share the same exchange rate. Imagine if the pound responded to the economic conditions in Germany instead of the UK.

Actually, you don’t have to imagine what the consequences might be. We experienced it in the 90s under the Exchange Rate Mechanism (ERM). It became known as the eternal recession machine instead. For good reason.

In the end we escaped the ERM. And the euro, largely because of our miserable experience with the ERM. But the likes of Italy and Greece are still stuck in the eternal recession machine. It’s just changed its name to the euro.

Today, we explore exactly why the euro is doomed. How it leads to constant financial crises, to which the British economy is dangerously exposed.

By the end of this article, you’ll understand why it’s no surprise that Europe has seen the lowest economic growth of any continent since the introduction of the euro. It’s had the wrong monetary policy applied, practically everywhere. And the wrong exchange rate too. The consequences have been devastating.

But let’s start at the beginning…

What happens when you sabotage your own economy?

The basic idea of monetary policy is to smoothen the business cycle. A country with a struggling economy gets a kick-start thanks to lowered interest rates.

A country with a booming economy, high inflation and low unemployment needs to be slowed down with higher interest rates to prevent inflation, bubbles, speculation and too much debt.

But what if you persistently set the wrong monetary policy in a country, deliberately? What happens?

Again, we don’t have to guess. History tells us what happens. Incorrect monetary policy was responsible for the financial crisis of 2008.

In the US, the Federal Reserve and its former chairman Alan Greenspan copped the criticism for this. Many commentators now agree that interest rates were kept “too low for too long” in the 2000s, inflating the US housing bubble with cheap debt.

In other words, the central bank financed the sub-prime bubble with low interest rates, fooling people into borrowing money they couldn’t afford when interest rates returned back to normal.

But in Europe, the ECB’s one-size-fits-all monetary policy was never blamed for the housing bubbles in Ireland and Spain. Those countries should’ve had higher interest rates when their economies and property markets boomed before the 2008 crash.

But Germany’s economy was the “sick man of Europe” at the time, requiring low interest rates. So the ECB split the difference and set interest rates somewhere in between.

Politicians call this a compromise. I call it the worst of both worlds.

It left Germany with an interest rate that was too high, and Europe’s booming economies with an interest rate that was too low. This financed the housing bubble’s excesses in the peripheral countries and kept Germany in the doldrums.

The reverse happened after the 2008 financial crisis. Germany benefited from interest rates that were far too low for its booming economy. A few years ago, the former German finance minister said the exchange rate was “too low” for Germany given its unemployment, inflation and GDP growth.

But the ECB couldn’t raise rates on the struggling Italians and Greeks. So the ECB’s 0% interest rates were inflating new bubbles across central Europe. Especially a housing bubble in Germany, just as in Spain and Ireland before 2007. That’s because house prices are especially interest rate sensitive.

Just look at this index of German house prices. It’s showing exponential growth – a property bubble.

Bank for International Settlements, Real Residential Property Prices for Germany [QDER628BIS], retrieved from FRED, Federal Reserve Bank of St. Louis

Of course, eventually these things correct. Just as Spain, Ireland and the US saw their property bubbles burst, Germany will see its economy crash.


This is one form of the fatal flaw of the eurozone. One monetary policy for all those different countries means the wrong interest rate applies everywhere.

Over time, this incorrect monetary policy in each country inside the eurozone is leading to enormous economic instability and inequality. Not to mention anti-euro sentiment. Not a good combination for the future of the euro.

It also leads to divergence in economies and investment prices – precisely the opposite to the integration that was promised by the euro’s creators.

In countries experiencing a boom, the ECB’s loose policy will lead to economic instability when the bubble bursts. In countries suffering under needlessly tight monetary conditions, it leads to anti-euro sentiment thanks to an eternal recession. In other words, instead of monetary policy smoothening the business cycle, it is worsening it.

At the end of 2018, the ECB was set to tightening monetary conditions by abandoning QE and there was even talk of raising interest rates. It was a reaction to the economic booms and inflation of northern Europe.

But this triggered the worst crash in financial markets since 2008. Southern Europe was still struggling immensely. In fact, Italy was heading into recession at the time.

Imagine the Bank of England raising interest rates while the economy goes into recession! Actually, some of you won’t have to imagine it. It’s precisely what happened under the ERM, shortly before we left.

Do you see why Lord Ralf Dahrendorf, former president of the London School of Economics, said this: “The currency union is a great error, a risky, reckless and mistaken goal that will not unite Europe, but divide it”?

But that’s just the monetary policy side of things. It shows how a shared monetary policy leads to economic instability and anti-euro sentiment. What about the exchange rate which eurozone nations share?

One exchange rate to rule them all

Usually, exchange rates between economies can adjust for an out-of-control economic boom or bust. Perhaps even for bad monetary policy, like the ECB’s.

The Italian lira can fall and the deutschmark can rise to enable Italy to recover economically and Germany to rein in its export and property boom. That’s why the pound fell 17% on Black Wednesday in 1992. And 20% after the Brexit referendum. The exchange rate acts like a pressure valve. It’s a correcting measure, constantly trying to rebalance economies’ trade flows.

In his book The Euro Trap, the economist Hans-Werner Sinn detailed how often some countries which are now stuck inside the eurozone needed to make use of this pressure valve in the past:

From the time the Bretton Woods system collapsed (1973) to the virtual introduction of the euro (1999), the lira devalued against the deutschmark by 80%, the peseta by 76% and the French franc by 52%.

In the EMS period (13 March 1979 to 31 December 1998), Italy devalued thirteen times and revalued once, France devalued six times and Spain four times.

These devaluations were signals that a fixed exchange rate between these countries wouldn’t work. They need their currencies and exchange rates to do some adjusting.

But that can’t happen in the eurozone any more. Everyone is on the euro. So what happens when exchange rates can’t adjust?

We don’t need to theorise about that. You probably experienced Britain in the years before it abandoned the ERM – the eternal recession machine. And then there was the 70s, when fixed exchange rates caused far worse economic chaos. The same happened in Asia in the late 90s, leading to the Asian financial crisis.

Britain escaped the eternal recession machine of the euro, largely thanks to its bad experience with the ERM. Margaret Thatcher explained the ERM’s effects three days after Black Wednesday to an audience in Washington DC:

The role of Government in trade and commerce, as in much else, is to create a framework of stability within which enterprise can flourish. But the rigid stability of fixed exchange rates threatened to stifle enterprise and obstruct commerce. It required heavy burdens to be placed on companies, including efficient companies. It made imports artificially cheap and exports artificially expensive. It starved firms of capital. It was bad for business. And it meant that home owners watched anxiously as the cost of their investment rose inexorably.

Yet the stability which fixed rates offered was a false one. It prevented currencies for adjusting gradually to market realities, and in the end it produced wild swings of instability. There’s nothing new about fixed exchange rates collapsing. What might be new is to finally learn the lesson that fixed rates don’t — and can’t — work in free markets.

Thanks to the floating pound, our currency even absorbed most of the Brexit referendum shock. Like Australia’s dollar saved Australia from a recession in 2008, the falling currency saved us from a recession. It’s an incredibly valuable pressure valve to have. Without it, you get bubbles, busts and eternal recessions.

Eventually, Europeans will realise this. And they will demand their own national currencies back.

But Britain won’t escape the fallout when the euro project fails. And that day is approaching.

Nickolai Hubble
Fortune & Freedom

PS I believe this is such an important idea – and one British investors need to understand – that I’ve written a book all about it. It’s called How the Euro Dies.

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