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Non, and loudly

by Brad Setser
May 29, 2005

France has spoken.

I don’t have any creative or original thoughts on what the French vote means for Europe, though, like many others, I found Henry Farrell’s thoughts interesting. For those interested in reading more about “Europe,” we have put a set of links up on the RGE monitor webpage (link at top). The folks at Democracy Arsenal are talking through the issue as well, and Eric Chaney lays out some of the potential market implications.

One thing is clear: the convergence trade just got a bit riskier …

I will be watching to see how the Turkish markets react to the non — a non cannot be good for Chirac, or for Turkey’s chances of gaining membership in the EU.

It is worth noting that the Euro is now back around where it was at the end of 2003 — in the 1.25-1.26 range. All the valuation gains that the US enjoyed on its European assets in 2004 have now disappeared. Remember, when the dollar falls against the euro, it immediately improves the US net international investment position by increasing the value of the United States substantial European assets. To repeat the valuation gains of 2004, the US needs the dollar to fall to 1.455 by the end of 2005. That does not seem likely. If nothing changes, the US is looking at a huge increase in its net external debt in 2005. A large current account deficit, and substantial valuation losses.

The OECD puts the US current account deficit at 6.4% of GDP in 05 (a bit under $800b), and 6.7% of GDP in 06 (close to $900b). If the euro stays around 1.25, European growth continues to lag, and Chinese exports continue to surge, that strikes me as a bit too low — the q4 2004 US current account deficit was around 6.3% of GDP. The OECD presentation contains plenty of other interesting information. Note strong domestic demand growth in France, for example, fueled by rising real estate values — which in a way makes current French unhappiness more striking. But real wage growth has slowed in France recently, and real wages are falling in Germany — there is a reason why European voters are unhappy. Adjustment through deflation is never fun.


  • Posted by anne

    The proposed Constitution was startlingly complex and seemed to put public influence at more of a remove than I would have preferred, but I am sorry for the failure. Likely the Netherlands will vote similarly, and the cause will be as in France as growing sense of public displacement. Regrettable.

  • Posted by anne

    Where’s the Boeuf?

    Grenoble, France

    WITH its project for a European Constitution, is Europe reliving the history of the United States? The Europeans take the comparison very seriously: they baptized the assembly charged with writing the document the ‘Convention,’ in imitation of the Constitutional Convention in Philadelphia. The president of the Convention, Valéry Giscard d’Estaing, even proposed ‘Federalist papers’ on the model of those written by the founders of the American democracy….

  • Posted by no name

    Brad Setser> I will be watching to see how the Turkish markets react to the non — a non cannot be good for Chirac, or for Turkey’s chances of gaining membership in the EU.

    Note that there’s an article on The New Republic website which seems to argue the opposite (I haven’t read the article, as it is behind a paid subscription wall):

    Turkish Delight by James Forsyth
    Why a French vote against the EU constitution would help Turkey.

  • Posted by brad

    alas, i have let my TNR subscription expire …

    and googling james forsyth did not generate an alternative link to his views.

    I recommend this FT piece for the conventional wisdom —

    One substantive point: giving Turkey — poor, majority-Muslim and new to Europe — the largest number of weighted votes in the council of ministers probably is a bridge too far for Europe’s political construction. Giving Turkey the largest voting weight follows directly from the idea that the council should weigh national votes to come closer to one person one vote — the country with the most people should have the largest share, tho, small states would still be disproportionately represented. Right now, that formula favors germany, which is underrepresented and is a big net financer of the union. If Turkey got in, tho, it would have the most people

  • Posted by Movie Guy

    The (west) European countries are dealing with some of the same problems facing the U.S. with regard to trade policy.

    The following articles probably apply to them as well. (the first is a backgrounder)

    Comparative Advantage and International Trade – simple explanation

    Shaking Up Trade Theory, BusinessWeek, December 6, 2004

    Harvard Economist Stephen A. Marglin; or here

  • Posted by anne

    There will be no pushing a decline in the social state much further. France makes that clear, and Netherlands will likely follow. There will soon be another, an early, election in Germany. Europe will not be America or even Britain in economics. Why should we be surprised? The French live well, and would hold the way they live. The union will hold however.

  • Posted by Stormy

    Thanks for Marglin, movieguy. He puts the issue nicely…and with the requisite credentials and authority.

  • Posted by glory

    thought this comment on exit polls was interesting 😀

    * 72% are in favor of a continuation of the European construction process (57% of the “no” voters).
    * Highest participation (>80%) and most in favor (>56% “oui”) among the 60+ demographic.
    * The higher the education, the more “oui”.
    * Biggest reason for voting “oui” (64%): “This constitution gives more weight to Europe vis-a-vis the USA and China”.
    * Biggest reason for voting “no” (52%): “Dissatisfaction with the current economical and social situation in France”, followed by “The constitution is too liberal [in the european sense=capitalistic] from an economic point of view” (40%).

    doesn’t do much for enlargement, turkey besides


  • Posted by DF

    I personnaly voted NON
    Reasons :
    1 EUrope is not a democratic entity. Most stuff is negociated between governments with no control from the european parliament. There are no european parties.
    There has been no european wide debate on the constitution issue. Etc.
    Hence the 172 pages “treaty creating a constitution for EUrope”.

    I’m for democracy, so I voted no.

    2 Markets need no to be curtailed, not regulated (i e expanded). The europe offered is one where EUrope’s institutions are the equivalent to a market authority that enacts rules of fair competition.
    THat does nothing against speculation and macroeconomic stabilisation. We need more plannification and macroeconomic stabilisers. Look at how the USA and CHina use all the tools they have (agressive monetary, budgetary policies, + trade policy + administrative controls). We have none (none) of these.

    3 Markets days are over. This follows the no to all trade negociations since 1995.
    Polanyi explained it all long ago, trade can do some good, growth and transformation need time, if you force the speed by agressive opening of trade barriers sooner or later, you wreck your engine (it s called overinvestment, see china, over indebtness see all the world).

    When there will be the oncoming crash, I’ll be happy we don’t have this european constitution curtailing action.

    What we need now is a european democratic party waging a european wide campaign in 2009 for a democratic european constitution.

  • Posted by MTC

    Would the Constitution have been better had it been written as an open-source project with a benign dictator (Romano Prodi would be my choice) at the center and blogs for each of the Articles?

    We live in the 21st century; we probably should be writing our laws in a 21st century manner.

  • Posted by Edward Hugh

    “Poland’s zloty, the Czech koruna, Hungarian forint and Slovak koruna weakened against the dollar. The Turkish lira dropped to as low as 1.3795 per dollar before trading at 1.3709, little changed from May 27. The currencies were little changed versus the euro”

    Turkey’s economy is actually growing nicely, and I think what they like to call ‘the underlying fundamentals’ are in fact a lot stronger than they are for the Central European countries.

    The Turkish Lira in fact dropped substantially on the day the French referendum was announced, and has been pretty stable vis-a-vis the euro since.

    Actually, Turkey membership – which remember isn’t till 2014 at the earliest, may infact be put back even further, but its position as a supplier (and outsourcer) for other EU countries should not be too affected, so there is no real reason why Turkey should be any the worse off. And then, between now and 2014 rather a lot can happen. The worst part may be that the EU can lose some leverage for pushing democratic and human rights reforms in Turkey, and obviously US influence there will then, by default, remain higher.

    On the general situation, I am nothing like as relaxed about this as Henry seems to be.

    I think the French vote was a clear vote against free trade. Now Mandelson really will have his work cut out with China. The real issue is the future of the Euro. Can there be a common currency without political union? We will have to wait and see, but I am not optimistic. My brother tells me from London that the BoE is no longer accepting Greek bonds at par.


    “Many Foreign and French observers do not seem to realize that what the French rejected yesterday is precisely Sarkozy’s program.”

    Really, it isn’t clear what the French rejected yesterday, except maybe free trade. Looking at the PS, Francois Hollande seems to have even more problems than Raffarin. My guess is that the PS is really badly divided, and will have difficulty putting together a coherent ‘presidentiable’. So my guess is Sarkozy will be your next president, and ironically, in terms of Frech internal politics the big winner of yesterday’s vote.

  • Posted by anne

    “Can there be a common currency without political union? We will have to wait and see, but I am not optimistic.”

    The question and answer are ominous.

  • Posted by anne

    There is however little stock market response. I am more sanguine, for I can not imagine how the Euro can be set aside.

  • Posted by brad

    “I think what they like to call ‘the underlying fundamentals’ are in fact a lot stronger than they are for the Central European countries.”

    Really? I know far more about Turkey than about the core central european countries, but I would be rather shocked if this were true, at least when it comes to key debt fundamentals (tho things are getting better in turkey and getting worse, i think, is some central european countries).

    Turkey does have a large primary surplus, and that, along with rapid growth is bringing its debt levels down from very high levels in 01.


    1) it has a big current account deficit, and that deficit is not financed by FDI. Lots of investors are chasing yield in the lira t-bill market.
    2) debt to revenue is still quite high.
    3) interest payments to GDP are still high.
    4) Even with the large primary, Turkey runs a substantial budget deficit — tho some central european countries do to (Hungary).
    5) Turkey’s reserves, particularly if you net out the $20b or so it still owes the IMF, are quite low.

    Take away the expectations that Turkey is too strategically important to both the US and Europe to fail, and i am not so sure Turkey is in great shape (Tho I have been impressed by its capacity to grow in the face of high real interest rates, which i did not expect). Of course, just because Europe (at least in the near term) won’t let Turkey into their club doesn’t mean they won’t write a check to help bailout turkey in the future …. the bigger question is how this impacts Turkey’s politics, and whether it starts to fray the political consensus inside Turkey to run (among other things) a prudent fiscal policy, both to avoid a debt crisis and as part of the path into Europe.

  • Posted by DF

    Not only free trade, but free markets.

    The problems we face now have been created by markets speculation. Bubbles everywhere, credit fed expansion, overinvestment in bubble china.

    It is not possible for all countries to adopt export led growth and finance the USA. It is not a stable model. If that is free trade, then yes this was rejected.

    Besides, free trade is becoming more and more outdated with the growing environmental costs of pollution.
    It might be cheaper to export devices to CHina and import shoes, because labor is cheaper in China.
    However it uses more energy, more oil and coal.
    Once you consider the environmental costs of this usage of oil and coal (for transportation, and lower chinese productivity), then you realise there’s a global loss because of free trade.

  • Posted by anne

    Turkish admission to the European Union would be a most wonderful humane contribution to democracy and peace. A further sense that ethnicity is no limiting factor to human rights advance and peaceful interrelations.

  • Posted by brad

    Bernard — I have the same sense re: Sarkozy. It would be strange if France rejected the European constitution because it is perceived as too “liberal” (in the Eurpoean sense of too much market and too little social protection) and then elected their own economic “liberal.”

    The German election also may be interesting: I get the sense Schroeder is in trouble b/c of “too much reform” (with reform meaning scaling back Germany’s welfare state, making Germany an easier place to do business) more than b/c of too little reform — tho obviously, the combination of “reforms” and no reward (slow growth, declining real wages) is the killer. But if Germans did like Schroeder’s reforms, then why turn to a party that at least traditionally has sought more of those reforms? Time for a change sure, but presumably not just any change …

    I don’t get the sense that there is popular appetite in europe for a radical change in the social market economy, though there clearly is appetite for a new approach to immigration/ integration/ lots of angst about “multicultural” France (and multi-cultural netherlands).

  • Posted by DC

    interest rate differentials and political uncertainty:

    time to sell the house and go long the USD?

  • Posted by bernard1

    Edward Hugh,

    I saw your comment in reaction to my comment. You are very right to say that Hollande is in deep s..t. Will the SP pull together ? My sense is that they won’t have much of a choice if they have any sense. But we will see. Certainly, if they choose to behave foolishly and fight internally for long or, worse, split, Sarkozy could win. Still, I repeat that it is the policies he advocates that were defeated resoundingly yesterday. Thus, there could be the situation where he is elected but where the population has no intention accepting his policies. Stranger things have happened.


    We agree on sarkozy. On Germany, I suspect things may be a touch more complicated still. I am not clear that CDU would be seen by the average German as the party of reform (CSU is a bit different, but I just don’t see Germans voting for a CSU, ie Bavarian Chancellor). After all, Kohl did not reform anything – I consider him a great man for other reasons -, he kept in place the consensus politics of long.

    incidentally, I am going south of the digital divide very soon for a long period – some of us believe in development aid – and may disappear from this blog if I can’t access internet. Hopefully I will be able to visit some of the time and, in the meantime, I wish you the best. You deserve it.

  • Posted by brad

    Bernard — I experienced the digital divide (ok, a very mild version) in stafford KS; have fun in the south.

    incidentally, did you by chance write something for Rand?

    and what happens to Fabius? Does he revive his career? DSK?

  • Posted by bernard1


    Re Rand: suggest you check first name, could well be François, a very close family member, china expert turned many things, but not me.

    Re Fabius: the right ticket to win will now be Fabius-DSK. Will those two have the sense and capacity to overcome personal rivalries and sit on some ideological differences ? I have no idea. But if they want a future, they will have to do it. Even Mitterrand pretended to mend fences with Rocard, so why not them !

  • Posted by gillies

    “Can there be a common currency without political union? We will have to wait and see, but I am not optimistic.”

    as in europe, so in the world. globalisation of trade has run ahead of the political institutions and must take a breather.

    “time to sell the house and go long the USD?”

    you could start by selling the second house.

    “Turkish admission to the European Union would be a most wonderful humane contribution to democracy and peace. A further sense that ethnicity is no limiting factor to human rights advance and peaceful interrelations.”

    thankyou for that. you might note that your own country would fail to qualify for the european union on both human rights and budgetary management grounds. it is within your democratic competence to vote for doing something about that. european enlargement is not. meanwhile europe stops at the bosporus. how about turkey as the 51st state ? you could set us a humane example ?

    “The problems we face now have been created by markets speculation”

    in my view – the comparative weight of speculation as against ‘ordinary’ buying and selling. the unsustainable ratio of dealers to buyers and sellers.

  • Posted by Navin


    What do you think will happen to the Currencies such as Pound, Lira etc ?

    I am sure Euro will go down as no central bank will want to keep that as the reserve currency ?

  • Posted by DF

    Hey folks, anybody comments on the recent move from china, not to tax exports anymore ?

  • Posted by brad

    df — pressure from chinese textile exporters, who did not want to face quotas from us and be taxed in china … at least that is what ft seems to suggest.

  • Posted by brad

    navin — actually, i think this (unlike December) is a pretty good time for a central bank to unload dollars/ buy euros. ECB has operated without a constitution for past few years, and it did not stop the euro rally. Worse case scenario — no euros. instead you get a portfolio of francs, dm, lira and dutch guilder … maybe not so bad.

    What is the alternative to the euro? yen. zero interest rates forever. among other things, that creates cash flow problems for central banks who have to pay interest on sterilization bonds. pounds? That means buying a strong currency in a country with a big current account deficit — sort of risky on any big scale. plus UK pound market is not big enough to absorb a large amount of reserves. Same applies to Aussia dollar in spades. US Dollars — most CBs have plenty of those already. Plus, you are holding the currency of a country with a 6.5% of GDP and rising current account deficit. History suggests that is a risky move. Euro area as a hole is in current account balance.

    Yep, i remain a dollar skeptic over the long-term. will until i see evidence the trade and transfers balance is heading down … right now it seems likely to head up. There is a tug of war between the US external imbalance ($ negative) and the absence of european growth (Euro negative, in part through interest rate differnetial channels). Last fall, the euro won. right now the dollar is winnning — but i am not sure that is sustainable. And both need to adjust vis a vis the emerging world, particularly asia — that is increasingly clear …

  • Posted by dc

    i’ve been told that the way to play the adjustment is through brazil. go long the real. thoughts?

  • Posted by brad

    Bolkestein (Dutch liberal, former commissioner) oped in FT won’t exactly win him any friends in France or Germany … I can see why his style did not exactly help convince the French that Europe is not a vehicle for unleashing market forces to undermine the French social model.

    I suspect the argument that Europe will kill the social market econony is bit overstated (as is the british characture of europe as one over regulated, stagnant mess that will drag the UK down). Analytically, there is little doubt that the european social model is under pressure — but the reason may not be europe. Alan Milward (european rescue of the nation state) is right, at least in some grand historic sense: “Europe” grew up — at least in its initial formulation before enlargement — at the same time as the post-war welfare state. However, slower growth (less catch up with usa — tho now a new gap seems to have opened up) and an aging society would put european models under strain even without “europe.”

    But some no doubt believe/ hope europe should be used as a vehicle for putting welfare states under pressure, whether or not is has to be — i.e. bolkestein’s vision of europe as a free trade area with an agressive competition policy but limited cross regional transfers and no “Common” agricultural policy. getting rid of the “common” part of the agricultural policy would be change — support for French agriculture was the price Germany accepted for access to the French market (actiually it is a big more complicated, germany also wanted high protected prices inside europe to protect small bavarian farmers from efficient french competition … ). Of course, historic bargains can alway be changed. Shifting to a national agricultural policy — or more realistically a hybrid with a common price supported at the community level but national governments financing top up subsidies directly to their farmers rather than having those subsidies come from the common european budget — is an approach that could make sense, but it could be an absolute disaster for polish farmers. Poland, in agriculture at least, is the new France: a big winner from the CAP.

  • Posted by bernard1


    I’ve got this fine tract of land down in Arkansas you might want to take a look at.

  • Posted by gillies


    is it for free, like the land in kansas ? (news item this week – declining towns offer free land to incomers to regenerate their ageing community.)

  • Posted by anne

    There has been no European Constitution till now, and the more I think about it the less of a problem not having a constitution for the time being will be. Traditional values will be asserted anew. Roche will be fine and Novartis will be fine, the Euro will continue to be bought. Another constitution will in time be drafted, with less of a remote feel.

  • Posted by anne


    There is every reason to believe that Turkey will become increasingly more Western European in social structure in coming years if there is at least some ability to link with the European Union. Possibly though the cultural-economic differences are simply too much to allow thorough integration.

  • Posted by anne

    Brazil 🙂 Well, if you know the market and like speculating. If you like speculating a lot.

  • Posted by dc

    its been a winning trade all year. now if only irony can hold and lula can win relection, the markets will be happy.

  • Posted by brad

    actually, long brazil has been a winning trade for several years. 2001 and even more so much of 2002 were not so hot tho.

  • Posted by Edward Hugh

    “Actually, i think this (unlike December) is a pretty good time for a central bank to unload dollars/ buy euros. ECB has operated without a constitution for past few years, and it did not stop the euro rally. Worse case scenario — no euros. instead you get a portfolio of francs, dm, lira and dutch guilder … maybe not so bad.”

    Woof Brad, are you sure about this! Have a word with Nouriel about what happened in Argentina. If there is any ‘break up’ even whispered about, there will be a run against risk, and that means into the USD.

    As I keep saying, watch Italy, and we will see how things go. Ladies and Gentlemen place your bets. Les jeux sont fait

    Turkey and Central Europe: “I would be rather shocked if this were true”
    IMHO the two are on entirely different debt trajectories. Basically the demographics of the 10 ‘new members’ are much worse than the older ones. And in general their citizens have far less in terms of ‘accumulated wealth’. So in terms of inter-temporal ability to pay issues, I would be far more worried about state and private debt in Hungary or Poland, than I am about the same in India or Turkey. Basically Turkey is about to enter the ‘sweet spot’ as far as the demography and growth positive feedback cycle is concerned. Turkey’s real GDP has increased by a cumulative rate of 25% in the last three years, and the economy is still far from overheating. The Turkish economy has produced 1.1 million new jobs in the same period. At the same time unemployment isn’t really falling much. Why is this? Well it is partly demographics, lots of new young labour market entrants, but there is also the same phenomenon as you see in China, restructuring means old industrial units disappear, and substantial productivity increases mean it is not possible to absorb so many so quickly. Trend productivity growth is now estimated at about 5.7% per annum over the last 3 years.Inflation in Turkey is droppping rapidly: Turkey’s current inflation rate stands at 8.2%, down from an average of 77.5% in the 1990s. The cumulative inflation in the first four months of 2005 was 1.6%, according to the headline index, and just 0.3% in terms of the ‘core’ index. In fact Turkey may be experiencing such rapid disinflation that it may hit deflation. MS’s Serhan Cevic argues this here:

    Basically I have a great deal of sympathy with this view. So I think that Turkey is Europe’s growth miracle, and that the EU badly needs all that energy, growth, and youth inside its frontiers. Otherwise as some wit said we really are going to become ‘little, old Europe’.

    btw, for those with a sense of humour, in the BoJ policy in Japan is Zirp (zero interest rate policy), at the ECB it’s twirp: two %…… :).

  • Posted by Edward Hugh

    “However, slower growth (less catch up with usa — tho now a new gap seems to have opened up) and an aging society would put european models under strain even without “europe.””

    Yes, this is largely right, the problem is demographic not the social model. But demographics mean that the social model – in terms of generosity of welfare payments – will have to change. There is no way to get growth and maintain the fiscal burden. Also, a side isssue – keynesian cyclical fiscal management is largely a dead issue, as you can’t inter-temporally trade foward debt with a diminishing work force and a low inflation (or even deflation) environment. My guess is that TWIRP will gradually become ZIRP, and so we may also run out of conventional monetary policy issues.

    “getting rid of the “common” part of the agricultural policy would be change”

    Yes, but this is coming in some form or other anyway, at least if we are going to have Doha, and a general reduction in agricultural subsidies.

  • Posted by Edward Hugh

    Brad, thinking on my feet, it does occur to me that there are two ways to ‘loosen’ in Europe, lowering the ECB rate, or talking the euro down. Since face-saving at the ECB makes it difficult to move TWIRP towards ZIRP, allowing leading EU Commision members and politicians to make fools of themselves and talk the euro down may become a pragmatic ‘de facto’ policy. Obviously a significant drop in the euro would be mildly inflationary, and hence would serve to justify the ‘inflation fears’ at the ECB.

  • Posted by df

    Turkey while growing is heading towards deflation, it exports deflation to europe, Europe is already close to deflation… ANd everything is fine ?

    Sure … there s no debt to pay back in nominal terms anyway …

  • Posted by cm

    I see it in good part as a vote against transnational corporatism, outsourcing, and eased cheap labor migration.