Euro Debt Spells Danger for Dollar

• Mexico latest country to join BRICs to replace dollar as world currency

By Bill White

Since the Bretton Woods system was established after World War II, the American dollar has been the backbone of international finance. But with American power on the wane and the United States economy in peril, even America’s closest neighbors are looking for dollar alternatives, evidenced by a recent sharp upsurge in euro-denominated debt from developing countries, particularly Mexico.

As of mid-December, $55.3B worth of euro-denominated debt had been issued in 2013, up 34% from 2012, including major issues from Mexican companies like Petróleos Mexicanos, better known as Pemex, which sold more than $2B in bonds for the Europeans in November.

 
 
 

Pemex, the state-owned Mexican oil and gas company, said that investor interest in euro-denominated bonds was three times that of dollar-denominated bonds, reflecting fears of the long-term stability of the dollar versus the euro.

While the Fed has begun to ease back its policy of quantitative easing (QE), which was designed to use inflation to help the banking sector, the policy has generally failed.

There are concerns now that QE tapering could cause deflation, as the velocity of money continues to stay low. On the other hand, rising interest rates and budget problems could cause a demand for more money printing—now a mainstream belief in much of Congress—which would hurt returns on the bonds, making them less attractive to investors. So, rather than gamble on the U.S. dollar, Pemex issued in euros, followed by a number of the other Mexican companies like América Móvil, one of world’s largest corporations, and the Mexican government itself.

“The euro ‘has emerged as a more full-fledged alternative to issuing in dollars,’ said Dmitri Gladkov, head of Russian debt capital markets at J.P. Morgan Chase & Co., whose team helps Russian companies decide whether to issue bonds in euros, dollars or rubles.” ‘The capacity of the euro market has clearly proved to be exceptionally high,’” Gladkov told The Wall Street Journal, in a December 16, 2013 article entitled “Emerging-Markets Borrowers Tilt Toward Euro.”

Lower European interest rates make euro bonds more attractive to issuers, and German sovereign debt rate, which is the basis of many euro bonds, is part of a more stable, manufacturing and export-based economy.

“‘There’s both pent-up supply and pent-up demand for euro’ bonds, David Hinman, chief investment officer at SW Asset Management, LLC, said in an email” for the Journal article. “Investors are looking to diversify away from the dollar.”

This move against the dollar on global debt transactions is part of a larger move against the dollar internationally, as the BRICS nations—Brazil, Russia, India, China and South Africa—and others have begun signing bilateral and multilateral trade agreements in national currencies, and Russia has begun proposing an alternative, Eurasian-oriented, clone of Bretton Woods.