As U.S. Influence Wanes, Is Europe Ready for a Global Euro?

The global monetary and financial landscape usually remains stable, with changes being rare and significant when they do happen. This makes the disruptions caused by U.S. President Donald Trump’s trade and tariff conflicts particularly noteworthy and challenging to interpret, writes Hélène Rey from Project Syndicate.

To grasp the current situation, it’s useful to revisit Charles P. Kindleberger’s theory of hegemonic stability, as outlined in his book The World in Depression: 1929–1939. Kindleberger’s theory suggests that a dominant global power is essential for maintaining an open and stable international system.

In the 19th century, Britain served as that dominant force. As the global economic leader and issuer of the primary international currency, it played a critical role in maintaining stability. Britain offered key public goods, including unrestricted trade even when it was unprofitable, thanks to British free trade policies. The City of London provided countercyclical capital flows, while the gold standard’s rules, supported by the Bank of England acting as a lender of last resort, ensured coordinated economic policies and stable exchange rates.

However, Britain’s global leadership waned after World War I, as the country could no longer support the international monetary system. While the United States was emerging as a powerful nation, it wasn’t ready to assume the role of a global hegemon. This transitional period, known as the "Kindleberger transition," coincided with the Great Depression and mounting political instability that eventually led to World War II.

The transition was formally solidified at the Bretton Woods Conference in 1944, where representatives from 44 countries laid the groundwork for a new global economic order. The outcome cemented the United States’ dominance, reflecting its commercial, financial, and military superiority. At that time, the U.S. made up 35% of the world’s GDP. Despite its share declining since, the U.S. dollar has remained the world’s leading reserve currency, anchoring fixed exchange rates and significantly influencing the global financial cycle through the Federal Reserve’s policy decisions.

Today, however, the global order appears to be entering another transition. The United States, the current hegemon, seems to be undermining its own position by neglecting global public goods. Neither the European Union nor China seems prepared to take the helm. While the EU is not yet equipped for such a role, China’s financial systems remain relatively isolated from global markets.

The Trump administration views the global demand for dollar assets as more of a burden than a privilege, believing it artificially inflates the currency’s value. If the U.S. continues on this path, it may inadvertently relinquish its dominant position, whether intended or not.

For a currency to assume a global role, the issuing country typically needs economic strength, a central position in global trade, innovation, and robust growth potential. Military power and alliances also play a part. Crucially, an open economy with stable institutions is essential. Yet, the Trump administration’s inward-looking policies are eroding confidence in the dollar, especially evident when new tariffs on imports caused financial turmoil, reminiscent of emerging markets’ volatility.

This scenario offers an opportunity for the eurozone, as the euro is already the world’s second-largest international currency. Greater global use of the euro could bring advantages, such as cheaper capital and improved fiscal stability, alongside increased geopolitical clout, which is vital as the EU seeks strategic independence.

However, capitalizing on this opportunity requires substantial efforts. Europe needs to deepen its internal market for goods and services and expand trade partnerships. Given its leadership in climate policy, the eurozone could even start invoicing climate-friendly products - like green energy equipment and electric vehicles - in euros while establishing financial tools related to climate risk management.

Further integration of the Banking Union and the Savings and Investment Union is also essential. Creating safe and jointly issued assets could foster deeper capital markets, crucial for innovation and economic growth. Increasing payment system sovereignty is vital too, reducing dependence on U.S. systems by potentially introducing a central bank digital currency (CBDC). Ensuring the European Central Bank’s role as a lender of last resort is equally crucial to maintaining confidence.

Implementing these changes won’t be simple. Nonetheless, if history has taught us anything from the Kindleberger perspective, it’s that the global economy would benefit from Europe stepping up as America retreats from its long-held position of economic leadership.

Source: Hélène Rey, Project Syndicate