October 27, 2008
Dean Baker
The Guardian Unlimited, October 27, 2008
See article on original website
European investors are an extraordinary type of creature. Usually investors try to make money for themselves or their clients. But, when it comes to the United States, European investors never tire of losing money. While this has benefits for those of us who live in the United States, it is nonetheless hard to understand.
The penchant of Europeans to throw money away on hare-brained schemes dates from the early years of the United States. In the 1830s, Europeans lost millions of dollars investing in the big canal boom of the era. No doubt their bets would have paid off well if it had not been for railroad. Of course, twenty years later they lost another fortune in railroad speculation.
The great thing about European investors is that they never learn. In the late 90s they got caught up in the irrational exuberance of our tech bubble. And it wasn’t just small time speculators who caught the fever. In 2001, Deutsche Telekom, the largest telephone company in Germany, bought Voicestream, a start-up wireless phone company, for $21 billion. Five years later, it couldn’t find a buyer at one-third this price.
Even the staid Daimler-Benz got into the act, paying $38 billion to buy Chrysler in 1998. The company produced almost nothing but losses for Daimler before it finally persuaded a private equity company to take Chrysler off its hands last year.
But these scams may prove to be small time compared to the mortgage-backed securities and various derivative instruments that U.S. banks managed to peddle to European banks and investors. Somehow, they didn’t see the largest housing bubble in the history of the world.
Alternatively, it may not have occurred to these investors that loans on houses that were losing 40-50 percent of their value might not be repaid. Or, even better, maybe these European investors believed the lines from the Wall Street investment bankers about how they had managed to contain risk. P.T. Barnum would be proud.
Remarkably, even after the collapse of the housing bubble, Europeans are still anxious to lose money in the United States. According to many accounts the real estate market in New York City is now being largely supported by European investors who think that buying condos in the city is a great deal. Maybe news hasn’t reached Europe that Wall Street is laying off people by the tens of thousands and that those remaining are going to be collecting lower salaries in the years ahead. (See, fewer workers and lower salaries means less money to buy expensive condos – eh, what’s the point.)
But, the really great sucker story at the moment is the willingness of Europeans to buy dollar-denominated assets to take advantage of our very low interest rates. The euro has plummeted by more than 20 percent against the dollar compared with its peaks in the spring.
The logic of the drop in the euro is that people are supposed to buy dollars when the world is in turmoil. The folks who peddled the subprime mortgage-backed securities are undoubtedly telling people to buy dollars right now. However, unless someone is anxious to lose even more money, it is hard to understand why anyone would hold much of their wealth in dollar-denominated assets at the current exchange rates.
The United States has a current account deficit of almost 5 percent of GDP. If the exchange rate stays near 1.25 euros to the dollar, the current account deficit will likely rise above 7 percent of GDP in the near future, and would almost certainly rise even higher if the dollar stays at this level. Such deficits are not sustainable and inevitably the dollar will plummet in value. Of course, if European investors are still holding their dollars, then they can look forward to yet another big loss on their U.S. investments.
The prospect of taking large losses on dollar holdings is especially hard to understand. When European investors took substantial losses on subprime mortgages, tech stocks, and even the canals in the 19th century, they at least were investing in the hope of making large gains. However, the latest rush to dollars involves putting money in assets that may not even pay a 1.0 percent interest rate. That return will not go far toward compensating for large losses on the exchange rate.
But, the European investors rush lemming-like into the dollar. It’s a good deal for those of us in the United States. We’ll get some cheap imports and good investment opportunities in Europe. We are all very thankful for the generosity of European investors.
Dean Baker is the co-director of the Center for Economic and Policy Research (CEPR). He is the author of The Conservative Nanny State: How the Wealthy Use the Government to Stay Rich and Get Richer. He also has a blog on the American Prospect, “Beat the Press,” where he discusses the media’s coverage of economic issues.
