The ERM Crisis: Understanding the turmoil in your pocket

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The Independent Online
Money is primitive stuff. To make sense of the turmoil on the exchanges, start with the way it affects ordinary people this weekend. For if Europe had to choose any time to have its currency crisis, the weekend at the beginning of August is perhaps the most appropriate. It is when most people on the Continent start their holidays: the one time in the year when people are most likely to have to change their own country's money into someone else's.

Currency and to some extent language remain the defining features of nationalism in Europe. One can drive freely across EC boundaries; people in different EC countries drive the same sort of cars, or buy similar goods in the shops; they can, in theory at least, travel where they want to for a job. There is even the emergence of a common language, used universally in business and communications - English, of course. As the European economies have become more integrated the fact that each country still has its own currency has come to seem more and more anomalous. Viewed from the perspective of Belgium or the Netherlands it is rather like having a separate currency for south-east England: drive 60 miles and you have to change your money because you have crossed a border.

Or at least it seems anomalous to the business community, coping every day with the problems with which tourists cope once or twice a year - hence the economic pressure within the EC to try to find some way of gluing the currencies together. After all, the alternative to glue - allowing currencies to be set entirely by the markets - is far from satisfactory. Forget about Europe and look at the sterling/dollar rate. It cannot be right that the pound was worth dollars 2.40 in the middle 1970s, dollars 1.60 in the 1976 currency crisis, over dollars 2.30 in the early 1980s, back to dollars 1.50 by the middle 1980s, back up again to touch dollars 2.00 last autumn, and dollars 1.48 yesterday. Maybe markets do make mistakes as such, but they certainly change their minds.

Yet running a national currency is central to nationhood, as countries that have had to live with currencies controlled elsewhere know very well. Ireland broke away from its currency union with Britain at the end of the 1970s because it otherwise had to accept interest-rate decisions made in London with no reference to Irish needs. The first thing that the new democracies of Eastern Europe did once they escaped from the Russian empire was establish their own money, or where they did already have a puppet currency, cut it loose from the rouble.

Britain's own experience of membership of the ERM was to have the mortgage rate on British homes determined, in practice, by the German Bundesbank and fixed to cope with the pressures of German reunification.

To understand this tension between the need to bring some stability to exchange rates and the need to allow both exchange rates and more particularly interest rates to move to the appropriate level for the country concerned is to understand the pressure of the past nine months on the ERM.

If there were a dominant world currency, as there was in the last century with sterling (backed by gold), or between 1945 and about 1970 with the dollar (backed by the size of the US economy), it would be easy. There would be a yardstick against which the various national currencies would be measured. During the 1970s and for most of the 1980s there seemed to be a suitable yardstick, for Continental Europe at least, in the German mark. The EC's monetary system was in practice built round it, though it did not suit people to acknowledge this. The ERM was not a European system at all; it was a German system in which every currency was tied to the mark.

It has taken a year of turmoil for most people to realise this. There are pockets of resistance: French politicians still find it hard to admit. What is impossible to deny is the fact that the ERM is adding to currency instability, the opposite of what it was intended to do. So it will have to be changed.

In changing it - and there is still a strong case for some sort of link - the politicians and central bankers need to remember attitudes to money are pretty primitive. People trust gold as a store of value simply because people have trusted it for thousands of years. People trust the German Bundesbank because they feel it is a bulwark against inflation in a way that the French or British central banks are not.

The run on sterling last September showed that people do not trust Britain - where politicians decide interest rates - to run a good currency. The run on the franc this week shows that they do not trust the French much either. Somehow, if there is ever going to be an acceptable common currency for Europe, the politicians will have to create something that is a really good currency: which is actually better than pounds, francs or even marks. Meanwhile they have to find a way of putting a bit more glue into the works.

This weekend shows that it may be a nuisance to have to change money, fattening the banks' profits every time one does so. But it also shows how nationalistic we are about money. Do we really want to have the return on our savings determined by a combination of the recently elected French prime minister and the soon-to-retire head of the German Bundesbank?