Signs Of The Apocalypse: Euro Below $1.25

The euro dropped below $1.25 for the first time in 14 months. It may have happened because Paul Volcker said that “You have the great problem of a potential disintegration of the euro.” according to Bloomberg.  Or, it may be because of a statement by the CEO of Deutsche Bank, Josef Ackermann,  that Greece will not be able to stabilize its economy enough to eventually pay its national debt.

The reasons for the severe drop in the currency are broader than statements by prominent members of the financial community. It has become more clear by the day that Greece has lost control over the part of its population that is against the budget cuts and higher taxes which are necessary for the nation to meet the conditions of its $140 billion bailout from Eurozone nations and the IMF.

It is also clear that the austerity measures being adopted by Spain and Portugal will meet similar resistance. Spain’s prime minister, Jose Luis Rodriquez Zapatero, said public sector salaries would be cut 5% this year. Aside from a lack of public support for the move, Spain’s unemployment rate of 20% does not seem likely to drop due to the nation’s week economy. It is hard to make the case the GDP can improve against the forces of a remarkably high jobless rate.

Portugal pledged to bring its deficit to 4.6% of GDP next compared to 9.4%in 2010. The nation will also rely on higher taxes and lower public wages to carry out its goal.

None of these actions are likely to accomplish their financial goal. There is a reasonable concern that the three countries are taking actions in which taxation will be regressive. GDP improvement is likely to stall if capital is taken out of the economy due to new taxes and the falling spending power of public and union workers. The reaction of the euro is as much due to this as any fear that the Eurozone break-up is imminent.

Taxes are often considered as a way to close budget gaps, that is until they drive down government receipts to levels that spending cuts cannot match.

Douglas A. McIntyre