Market Data

Get Ready for the Euro

With the implementation of the Economic and Monetary Union (EMU) on January 1, 1999, Europe will enter a new monetary era, when the currencies of 11 European nations permanently will be pegged to the new euro.

The charter nations are Austria, Belgium, Finland, France, Germany, Ireland, Italy, Luxembourg, the Netherlands, Portugal, and Spain. By July 1, 2002, EMU charter members will adopt the euro. Combined, the gross domestic product (GDP) of these nations totals $6.9 trillion, which is 80 percent of the $7.6 trillion U.S. GDP. In 10 years, the EMU could include 22 nations with a combined GDP of $9 trillion.

Reaching Convergence
The process of harmonizing the economies of the euro-issuing nations is called convergence, which requires that specific monetary and fiscal criteria be met. The EMU's criteria state that:

  • The one-year inflation rate must not be more than 1.5 percent above the three best-performing countries.
  • The one-year long-term interest rate must not be more than 2 percentage points higher than the three best member countries in terms of price stability.
  • Budget deficits cannot exceed 3 percent of GDP.
  • Outstanding public debt cannot exceed 60 percent of GDP.
  • Currencies must have respected the normal fluctuation patterns by the exchange rate mechanism of the European Monetary System for at least the past two years.
  • National central banks must have full autonomy.

Although only Germany, Portugal, and Finland have national debt comprising 60 percent or less of their GDPs, the remaining nations are in conformity with the other admissions requirements. The EMU gave the nonconforming nations waivers on the national debt requirement because they have undergone fiscal belt tightening that has reduced the growth rate of their national debts.

These convergence criteria have affected the social and political fabric of Europe. Historically, many European nations have offered generous cradle-to-grave social benefits. To pay for these benefits, governments had to borrow and tax heavily. But because of the limited budget deficit and upward pressure put on interest rates by large-scale government borrowing, governments are being forced to adopt a pay-as-you-go budgetary policy to meet the euro-participation criteria. With little room for raising existing high tax rates, they are scaling back social programs.

In addition, the newly created European Central Bank (ECB) will manage the euro, requiring euro-participating nations to cede control over monetary policy, which is an important element of national sovereignty.

The Euro's U.S. Impact
How will the euro affect real estate investment in Europe by U.S. companies? When purchasing investment property in Europe, there is currency-related risk and real estate-related risk. The euro has a much greater ability to reduce currency-related risk than real estate-related risk.

The ECB will manage the stability of the euro. The objective of the EMU is to create a relatively stable currency that eventually will become second to the U.S. dollar in terms of reserve currency. The stability of the euro, coupled with tight fiscal controls, is intended to lower and stabilize interest rates, effectively lowering the cost of financing real estate in euro-participating nations.

Prior to the euro, investors that owned properties in multiple European nations were subject to large swings in currency valuation, which artificially boosted or reduced the property yield when measured in U.S. dollars. To mitigate currency fluctuation risk, companies employed sophisticated and sometimes risky currency-hedging strategies. Provided that the euro becomes a relatively stable currency, investors with properties in multiple euro-participating nations only will have to worry about managing the fluctuations of a single, more stable currency.

However, the introduction of the euro should not open the floodgates for real estate investment in these nations. The common currency will not overcome dramatic differences in structural real estate issues such as lease conditions, land pricing, building codes, lease commissions, acquisition fees, appraisal standards, and yield rates from nation to nation. Even with the euro, companies must examine these issues on a country-specific basis. However, if the ECB achieves its objective of creating a stable currency, the prospects for investing in real estate in these nations should brighten because currency-related risk will be reduced greatly. Nonetheless, broader European-wide securitization of real estate will have to wait until greater uniformity is reached on the structural issues.

George Green

George Green is a policy representative/senior economist for investment real estate at the National Association of Realtors in Washington, D.C.


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