THE crunch is approaching in the run up to EU monetary union. The latest wobbles in the currency market show that investors are now starting to focus on whether the French economy would meet the rules for qualification for the single currency.
If it can, then a link between the franc and the deutschmark would form the foundation for monetary union to go ahead on schedule in 1999.
The dilemma for the French government is clear. To meet the rules for qualification to the single currency it must ensure that the budget deficit next year is no more than 3 per cent of national output. This would be no easy task, requiring spending cuts in next month's budget. Already the trade unions are poised to resist spending cutbacks and market analysts have their calculators at the ready, keen to conclude that the French sums do not add up.
The President, Mr Jacques Chirac, reaffirmed France's commitment to monetary union again yesterday, ahead of a meeting this weekend with Germany's Chancellor, Mr Helmut Kohl. But market jitters continue, with the franc trading at three month lows against the deutschmark and the Paris stockmarket falling.
As France returns from its summer holidays, the next few weeks will be crucial. Starting with the latest unemployment figures today and next week's economic growth data, investors will be watching a string of events to see if the Juppe government can qualify for EMU without imposing too much pain on the economy. The public reaction to the government's plans will be closely watched. A return to the widespread street protests of late 1995 would raise some doubts within the market place.
The economy's growth performance will be crucial; the Chirac government is banking on a recovery moving into next year to ease the budgetary sums, and will hope that the latest Bundesbank led reduction in interest rates will help. However, the extent of recovery likely in the French and German economies is unclear.
At the moment the majority view in the markets is that monetary union would start roughly on schedule in early 1999, or at worst be delayed for a short period. Many investment decisions have been undertaken on this basis. If events in France upset this view over the next couple of months, then the market consequences would be a sharp rise in the value of the deutschmark and pressure on interest rates elsewhere in Europe.
The trend of the US dollar would also be crucial. Weakness in the US currency traditionally causes pressures in the European currency markets by pushing funds into the deutschmark. At the moment US interest rate prospects appear to be balanced on a knife edge and further uncertainty over Federal Reserve Policy has the potential to undermine the greenback.
One perspective on EMU came yesterday from US treasury secretary, Mr Robert Rubin, who echoed the widespread scepticism in the US about the pain being imposed on European economics to quality for monetary union. Seeing "a real question" about growth in Germany and France, he warned that too rapid reductions in the budget deficits could overwhelm the impact of lower interest rates promised by cuts in borrowing and EMU.
For Ireland, Europe wide nervousness about EMU would lead to a weakening of the pound and could put some upward pressure on interest rates. For the moment there are few enough signs of serious tensions as the European and Irish markets continue to trade fairly comfortably, with most analysts expecting stable interest rates after the current increases are complete. But investors are not yet fully convinced that EMU will go ahead. And they know that the next couple of months could tell a lot.
