Can the Euro ever rival the Dollar?
This will require deep reforms and the window for those is closing rapidly
When the Euro was introduced in 1999, there was hope it would grow to be a counterweight to the US Dollar. That hasn’t happened. In today’s post, I discuss the two key reforms that are needed to grow the Euro into a genuine reserve currency rival the Dollar. Unfortunately, those reforms cut deep and - as the AfD grows more powerful in Germany - the window to make these changes is closing.
The International Monetary Fund (IMF) publishes a quarterly survey called COFER (Currency Composition of Official Foreign Exchange Reserves), which reports on the currency composition of official foreign exchange reserves held by central banks around the world. I wrote about these data in a post a few weeks ago, when I discussed reserve currency status of the US Dollar.
The chart shows the latest data point for this survey, which is Q4 2024. The allocation to the Euro is 20 percent, which - remarkably - is the same as when it was introduced almost three decades ago. The fact that the Euro has failed to close the gap with the US Dollar illustrates the TINA problem (There Is No Alternative), which remains the single biggest advantage the US Dollar has as the world’s reserve currency.
There are two sets of reforms that are needed to make the Euro competitive. First, unlike the United States, the Euro zone is a monetary union without a fiscal union. Fiscal union would be a game changer, but the politics of getting there are difficult and almost insurmountable. This is because government debt levels are highly unequal across Euro zone countries, with Italy at 140 percent of GDP versus Germany at 65 percent. If Italy were to pursue genuine and substantial debt reduction, this would build trust in Germany and perhaps make fiscal union possible. But - with an ascendant AfD in Germany - the window for this is closing rapidly. Second, Europe needs to start acting like a genuine geopolitical force. The fact that it isn’t reflects the way foreign policy works in the EU, which requires unanimity. This gives each of the 27 member states a de facto veto, making it next to impossible to take aggressive and forceful action on anything. The obvious change that’s needed is to shift to qualified majority voting (QMV), which would mean a “double majority” of member states and a majority of the EU population allow a proposal to pass. Needless to say, QMV is opposed by small countries, which in effect would cede power to larger countries, making it a political no-go.
The Euro can become a reserve currency to rival the Dollar, but this will require deep and difficult changes. The discussion to make these changes simply isn’t being had. Instead, periodic ECB bond market interventions and one-off joint EU debt issuance try to paper over the cracks from disparate debt levels. Markets don’t see this “papering over” as sustainable and so reserve currency status of the Euro languishes.
The Draghi report was a good playbook to get the union on a more solid footing
Common debt issuance, one stock
Market to rival the American ones
Italy has indeed that debt threshold
At the same time fiscal union is impossible if Netherlands and Ireland continue to be de facto fiscal paradise for corporations, this is distorted completion among States
Many hurdles to overcome
Excellent piece as always—concise and clear.
As an economist born and raised in Italy and imbued with the ideal of a united Europe, I believe the odds of the reforms you highlight are exceedingly low for two reasons:
The rise of populist politics makes the consensus required for such reforms politically arduous.
Geopolitics—specifically the realignment of U.S. interests. The trans-Atlantic alliance is moribund in its current form, and once the dust settles the new system of alliances will likely look very different. Such a shift will inevitably strain the monetary union’s structure and, in my view, could lead to fragmentation.