Jun.
26
2014

Be Careful with Euro! – Interview with George Soros – Part 2

George Soros, Hungarian-born investor, philanthropist, social economist, who has proved high levels of expertise on the currency markets on several occasions in the past decades, draws attention to following: the dollar should grow and the euro should weaken – in theory. However, there might be a counter-trend on the markets and the zero- interest-rate environment might attract many investors, who want to engage is carry trade. If the demand is too high, a large short position is created and the euro will appreciate, George Soros tells.

If we look at Europe again, what do you see foremost: political or rather financial, economic problems? A tendency of closure – more precisely, the rise of radical, nationalist, populist powers and a sort of political protectionism – can be observed among a number of countries.

I think that Europe is mostly facing political problems. The debtor countries are rebelling against the handicap they are suffering from. They are meeting with resistance, first of all, from Germany. Germany is opposed to the introduction of expansionary quantitative easing by the European Central Bank as it would increase the danger of asset bubbles.
In effect, both sides are dissatisfied and are against the euro policies.

What are the consequences?

On the political side, as I said before, the Russian form of governance is posing an existential danger to the West. For the moment, unfortunately, it is more successful than the international governance of the European Union.

Is the Russian model more effective?

I would not say that. Both models are extremely inefficient in different ways. The national, arbitrary governance is, actually, a form of exploitation of the people. The rulers use their dominant position to benefit themselves, including corruption, use of public resources for private gain, and state capture. The state is in the hands of a ruling clique that perpetuates its dominance by using the ideology of nationalism, ethnic supremacy, and religion. The European Union’s governance, on the other side, is very bureaucratic, rigid, and wasteful.

Is this Russia you described able to divide the European Union? Can such models appear in Europe because it seems to be the more successful one?

Certainly, Russia is trying to establish and exploit the anti-European political movement. The French Front National or the Greek Golden Dawn fascist party can be mentioned as examples. But there are plenty of other examples around the world.

How does China fit into the global picture?

Putin is desperately trying to get closer to China. But it is a one-sided pursuit; China is not ready to ally itself with Russia. The only result of this “courtship” is a favorable gas supply contract, which benefits China but does not benefit Russia.
At the same time, China is also facing an internal crisis due to the tremendous amount of debt accumulated. Increasingly, its robust economic growth has been financed by debt.
It can continue maybe for another year but definitely not for another five years.  The economy has to be restructured because the investments became less profitable and the exports started making losses, as well. This is hurting the global economy since, in the recent years, China has been the motor of global growth in the past years.
The shadow banking problem has to be brought under control before the system collapses. The government has to reorganize the economy to grow along with domestic consumption rather than with exports (investments).

One of the tools will be the devaluation of the Chine currency, the yuan, right?

They have actually started devaluating the currency.

Do you think there is a currency war going on in the world? If the yuan is devalued, all the other Asian currencies will be devalued, as well. There is a growing desire for devaluing their own currency in order to increase competitiveness…

There is a kind of competitive devaluation, which is, of course, impossible to benefit everybody. If you devalue against the other currencies, others will do the same thing and nothing essentially changes.

What about the euro and its relationship with the dollar? Many people here hope for the weakening of the euro against the dollar as the strong euro has dramatically reduced the competitiveness of Europe –at least the competitiveness of the Southern countries of the Eurozone. According to many experts, the dollar is extremely undervalued and should strengthen. What do you think?

That is right but other aspects have to be taken into account, as well. First of all, the euro can be borrowed up to four years at effectively zero interest rates, which may increase the demand for the currency. (You borrow euro – at low or no cost – and you invest it elsewhere in the world, where you can earn an interest higher than zero.) Therefore, the euro may be increasingly used as the basis of carry trade (like the yen or the Swiss franc before – ed.). Right now, the euro is still weakening because the ECB will keep the main interest rate at zero for quite a while. At the same time, many people took short positions, expecting further weakening. This will result in a large short position in the euro, which can create a short squeeze and the currency appreciates (for instance, in case of low global risk tolerance– ed.). Then, the short positions will be liquidated, adding further demand for the euro.

All in all, the situation might have destabilizing effect as the liquidation will come suddenly and will disrupt existing positions. It is a dangerous uncertainty, which can easily cause financial distress.