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Busch: The Case Against the Euro

The Euro and Gold remain the top two stories in the financial markets as former losses ground while the latter puts in new all time highs.

This is the exact opposite of what was occurring during the US financial crisis.

This leads me to the simple conclusion that whatever area of the world that is in crisis will see its currency lose value to gold. This relationship is strengthened if the crisis center begins quantitative easing.

In the case of the Euro, there are a few more dynamics at play that are driving the Euro-gold move.

Gold coins and bar
Gazimal | Iconica | Getty Images
Gold coins and bar

During the greenback’s recent 10 year slide, reserve managers across the globe have been shifting out of US dollars into Euros to diversify their portfolios of currencies. Simultaneously in the Far East, reserve managers have been buying US dollars to manage the strength of their own currency to help their domestic exporters.

This meant that when the US dollar declined, they had to buy US dollars and then in turn buy Euros to diversify.

Sounds as conflicted as De Niro’s Paul Vitti in “Analyze This” when he wants to shoot his own psychiatrist (Billy Crystal), but he can’t.

Reserve managers bought US dollars and then bought Euros driving the value of the Euro higher as the dollar declined. Now, the inverse is occurring. The US dollar is rising and taking away the need for FE reserve managers to intervene to buy US dollars and subsequently taking away the need to buy Euros. On top of this dynamic, there is the added concern of the Euro as a reserve currency.

This is likely further driving demand away to buy it.

Lastly, we have the European Central Bank announcing it will buy European bonds to stabilize markets, but supposedly will sterilize the interventions.

Since the ECB is apparently going to be opaque on the size of the purchases, I doubt the sterilizations will occur or at the minimum there will be market doubts about them.

The European Debt Crisis - See Complete Coverage
The European Debt Crisis - See Complete Coverage

Of course, there are current market doubts about the longevity about the European Monetary Union given the Greek debt crisis.

Also, there is uneasiness in the markets over European banks and how much sovereign European debt they hold.

If you were managing your country’s currency assets, wouldn’t this all be enough to raise doubts over the legitimacy of the Euro?

Programming Note: Today at 11:05 AM ET, Mr. Busch will be appearing on CNBC World’s Closing Bell discussing the European debt crisis and the outlook for the Euro currency.

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Andrew B. BuschDirector, Global Currency and Public Policy Strategist at BMO Capital Markets, a recognized expert on the world financial markets and how these markets are impacted by political events, and a frequent CNBC contributor. You can comment on his piece and reach him hereand you can follow him on Twitter at http://twitter.com/abusch.