The euro as the world’s reserve currency?

The euro as the world’s reserve currency?

The euro as the world’s reserve currency?

Written by Simon Tilford, 15 November 2007

by Simon Tilford

Back in the 1970s President Nixon’s treasury secretary, John Connally, famously quipped that “the dollar may be our currency, but it’s your problem”. One of the arguments in favour of establishing the euro was that it would quickly come to rival the dollar’s status as the world’s principle reserve currency and make it hard for the US to abuse its “exorbitant privilege” – devaluing the dollar imposes few costs on the US because its foreign debt is denominated in dollars. Is the wish of those Europeans that want to see the dollar dethroned about to come true? If so, would this be a win-win scenario for the eurozone?

There is no doubt that the threat to the dollar’s status is bigger than at any time since the end of the Second World War. The most likely outcome is that a rapid narrowing of the US current-account deficit and renewed fiscal discipline will combine to restore confidence in the dollar, and that it will retain its status as the world’s leading reserve currency. Confidence in the long-term prospects of the US economy remains strong, and the country’s huge and liquid financial markets make the dollar highly attractive as a reserve currency. However, a rout is a possibility, and could be triggered by a number of events, such as a debt crisis in the US or a steep rise in inflation, which would undercut the willingness of foreigners, crucially East Asian central banks, to hold so many of their reserves in the American currency. Let’s assume for a moment that the damage to the credibility of dollar is such that its role as the world’s favourite currency is lost.

The euro would be the only plausible replacement. It is the world’s second most important reserve currency, though a distant second to the US. The eurozone economy is huge (though not quite as big as the US), its economy is open, its financial markets increasingly deep and liquid, and the ECB now enjoys considerable credibility in the financial markets. But what would it mean for the eurozone, aside from schadenfreude? It would be easier for European companies to operate internationally as there would be less exchange rate risk. With import and export prices denominated in euros the economy, and the inflation rate, would be less vulnerable to shifts in exchange rates. Much more important than this, however, would be the gains from seignorage. As is the case at present in the US, the eurozone would benefit from what are effectively very low interest loans in the form of large central bank holdings of euros. Also, the growth of international trade would boost demand for euros, with the result that the euro-zone could very cheaply finance an external deficit, much as the US has been doing for decades.

But there are downsides to these potential advantages. As the issuer of a major international reserve currency, the eurozone would have to cope with different external risks, such as structural imbalances in the global economy, that are to a large extent responsible for the weakness of the dollar. The huge US current account deficit is the flipside of mercantilist economic policies being pursued by East Asian governments. Internationalisation of the euro could also make it harder to control the stock of euros in circulation and hence growth in the money supply and potentially inflation. An increase in the demand for euros would either cause the currency to appreciate, making exports less competitive, or require that the eurozone run a substantial external deficit in order to satisfy the external demand for euros. For this to happen, the ECB would need to run a looser monetary policy.

The potential for conflict within the eurozone is obvious. A stronger euro would be anathema to many eurozone countries, not least France and Italy, which are already very worried about euro strength. But a looser monetary policy would be anathema to countries such as Germany and the Netherlands that worry about the inflation implications of cheaper money. Indeed, it is far from obvious how the eurozone could run a sizeable current account deficit without exacerbating existing tensions between members of the single currency area with large current-account surpluses, such as Germany and Netherlands, and those with large or rising external deficits – most notably Spain, but also France and Italy. It would be possible for Germany and the Netherlands to continue to run big surpluses at the same time as the eurozone as a whole ran a bigger deficit, but only if other eurozone countries ran even bigger deficits. This is politically implausible.

Becoming the world’s principle reserve currency might not be worth the bragging rights.

Simon Tilford is chief economist at the Centre for European Reform.


Added on 15 Oct 2008 at 02:55 by Anonymous

I agree with the author's prediction that "The euro would be the only plausible replacement. It is the world’s second most important reserve currency".The growth of international trade would boost demand for euros, with the result that the euro-zone could very cheaply finance an external deficit, much as the US has been doing for decades

lucky" REL="nofollow"> Credit Card Debt

Added on 11 Aug 2008 at 11:32 by Mike

Just to be clear.. I don't mean that in a bad way..

Added on 11 Aug 2008 at 11:11 by Mike

I think that the entire western economy needs to be cautious in general, not only in currency politicts.

I think we'll have a very strong side in China when they develop further in the years to come.

Added on 27 Nov 2007 at 14:57 by Pete

An interesting article. I am interested by the author's prediction that "with import and export prices denominated in euros, the economy, and the inflation rate, would be less vulnerable to shifts in exchange rates". If we look at what has happened while oil has been priced in dollars, as the dollar has depreciated against the euro, oil producers have demanded more dollars per barrel so the dollar-price has risen (of course there are other reasons for this price rise). So the dollar's reserve currency status has exacerbated the inflationary effects of depreciation, not mitigated them. Would the effects on Eurozone inflation be different were the euro to become the reserve currency?

Added on 16 Nov 2007 at 09:58 by spikslow

Given the current imbalances in global currencies, I would say that the US is currently paying a heavy price for its reserve currency status. The relentless buying of dollars by asian countries means that the US is carrying most of the load in the global economic adjustments that are currently taking place. If the euro inherited this reserve currency role, the EU would have to take on this burden.

The EU would be wise to avoid this situation, but unfortunately the reserve currency is determined by the actions of the whole world and is not controllable by any one country.

Added on 15 Nov 2007 at 17:27 by Anonymous

What if.. lets play that tape a bit longer. What if more natural resources get traded in eouros? I seem to remember that Saddam was about to do just that. What if Russia decide to like trading energy in euro? The iron ore of the Brazil mining giant CVRD? Would Rio Tinto, BHP and the rest follow? What if China just decide to transfer more of their reserves into euro. What if they.. whether EU like it or not? Can the euro, sort of, be forced into beeing a de facto world reserve currency by business decisions of thousand of others? Or will we see something like multiple, even competing reserve currecies, dollar, rubel(?), euro, yen...?

I do not think the US would like it with their current unipolar vision of the neocons, but would it benefit the world?


A grand bargain with Russia?

A grand bargain with Russia?

A grand bargain with Russia?

Written by Charles Grant, 19 October 2007

by Charles Grant

Relations between the Russia and the West have not been so prickly since the break-up of the Soviet Union. Viewed from the US and the EU, Russia is being obstructive across a whole swathe of issues, such as its blockade of trade with Georgia, its refusal to accept independence for Kosovo, and its opposition to further UN sanctions on Iran.

But although Russian foreign policy seems increasingly driven by a strident nationalism, there may be a method behind it. In Washington and Brussels, influential figures (including Henry Kissinger) think Russia may be seeking a ‘grand bargain’. President Vladimir Putin dropped hints that he might be open to such a bargain when he met think-tankers (myself included) at Sochi in September. “If our partners want something from Russia, they must be specific, and not ask for everything at once,” he said. “If you want to talk about Kosovo, OK, if you want to talk about the Iran nuclear problem, OK, but then don’t talk about Russian democracy at the same time.” He has a point: the US has tended to make wide-ranging demands of Russia without prioritising them.

The EU has a central role to play in any set of bargains between the West and Russia, given its extensive trade and investment links. The EU should seek to work with the Russians on three areas where they have mutual interests, and where a bit of horse-trading could be beneficial.

• Russia and the EU share many long-term interests in energy. Europeans want assurances that Russia will develop new gas fields, since a gap between demand and what Russia can supply is likely to emerge within a few years. The Russians worry that the EU’s moves to liberalise the European energy market may prevent Gazprom from buying pipelines there. Russia will have to abide by the EU’s rules on energy markets, just as the EU will have to accept that Russia does not allow foreign firms to buy key energy assets. Mutual dependency should encourage both sides to compromise.

• Both would benefit from Russia’s full integration into the global financial system. Thanks to the high oil price, Russia’s government and leading companies are sitting on funds worth several hundreds of billions of dollars. They want to put some of the cash into foreign firms. But the EU is becoming concerned about ‘sovereign wealth funds’. It should allow these funds to invest in European firms, so long as they are transparent and operate independently of politicians. And the EU should welcome Russian acquisitions of its companies, so long its rules are respected and European firms gain reciprocal rights.

• Both the EU and Russia have an interest in the countries of their common neighbourhood becoming stable, prosperous and well-governed. The EU should offer to work with Russia to promote peaceful change in Belarus, stability and unity in Ukraine, and a resolution of the ‘frozen conflicts’ in Transdnestria, South Ossetia, Abkhazia and Nagorno-Karabakh. The Russians may baulk at this: they fear encirclement by an expanding NATO and more ‘colour revolutions’, like those that loosened their control over Georgia and Ukraine. EU governments should allay Russian concerns by saying they will not support NATO membership for Ukraine or Georgia in the medium term. But the EU should offer such countries closer ties – and make clear to Moscow that they must be free to determine their own destiny.

The EU has a huge stake in the future of Kosovo; it cannot integrate the Western Balkans until that territory’s status is resolved. It will provide most of the money, soldiers, policeman and administrators to make any peace plan work. Russia has almost no interest in Kosovo, other than as a card to play against the West. The EU and the US believe that the least bad option for Kosovo is supervised independence, which Russia rejects.

But what if Russia was offered something in return? The US decision to deploy missile defence systems in Europe, against an Iranian threat that does not yet exist, was unwise. Russia’s anger over the deployment is genuine. Some former US officials claim that the deployment would break the spirit of promises made to Russia in the 1990s: the US said it would have no significant military presence in the Central European countries that joined NATO.

Russia’s heavy-handed over-reaction to US plans for missile defence – threatening to target missiles on Central Europe – makes it hard for Europeans to oppose those plans. Nevertheless, the Europeans should urge Washington to postpone the deployment indefinitely – so long as Russia accepts independence for Kosovo in return. Russia may shun this sort of bargain. But if its rulers are serious about maximising Russian power, they should negotiate with western leaders over their differences, rather than turn their back on them. (A longer version of this article appears in the November edition of

Charles Grant is director of the Centre for European Reform.


Added on 24 Mar 2011 at 12:17 by Richard

I think the idea of somehow making a bargain with Russia is just wishful thinking. There is no rule of law and no accountability in this country that has been ruled for centuries by edict. When leaders change, so do the rules. The current version of the Russian empire is a cleptocracy with various vassal lords constantly jockeying for position. The Russian people may have outgrown the Soviet Union but they are not equipped to embrace democracy.

Added on 14 Nov 2007 at 17:41 by Anonymous

I do not think much of this will happen as long as there is a nukelar superpower with unipolar visions. The US must turn their foreign policy 180 degrees before Russia and EU (NATO) can see some good development between them. NATO has become something really bad in due to this unipolarism.


Sarkozy on America and the world

Sarkozy on America and the world

Sarkozy on America and the world

Written by Tomas Valasek, 29 August 2007

by Tomas Valasek

In his first 100 days in the office, Nicolas Sarkozy turned France’s domestic political scene on its head. He trounced and marginalised the far-right National Front in the May presidential elections. In parliamentary elections a few weeks later, he wiped out Francois Bayrou’s bid to form a centrist party. And once firmly installed in the Elysée palace, he emasculated the leading opposition party, the Socialists, by poaching their best minds.

What in the world, one might wonder, will he do to France’s foreign policy when he puts his mind to it?

Well, on Monday we got our first hint. Sarkozy gave a speech to an assembly of French ambassadors from around the world. The presentation was typical Sarkozy. It oozed confidence. The speech showed him prepared. And, in a number of important ways, it showed him willing to depart from policies of Jacques Chirac.

The most interesting part of this speech was about Iran. Before even mentioning the country by name, he notes that France has an obligation to help the rise of emerging states by giving them access to nuclear technology for peaceful use. In saying so, he seems to be pre-emptively addressing Tehran’s accusations of double-standards. But then, when Sarkozy starts talking directly about Iran, he hammers. To France, a nuclear-armed Iran is simply unacceptable. France will support a new round of UN Security Council sanctions (when only last month it was said to be lobbying in New York against it because French companies may be among the most affected). And finally, the coup de grâce: unless Iran respects its obligations it will not escape “the catastrophic alternative: a nuclear-armed Iran or the bombing of Iran”. Sarkozy is effectively laying the blame for possible US intervention at Tehran’s feet. He is making Iran the issue, not the US. He does not condone bombing but suggests that he may not be entirely opposed either. And if it happens, it will be Iran’s fault. This is a significant change from Jacques Chirac’s days.

Washington’s joy at the speech will not be unqualified. Sarkozy is not warm to America. When addressing it directly, he calls for “pragmatic” relations. Sarkozy’s agenda for the French presidency of the EU in 2008 is not particularly US friendly. The emphasis on immigration, energy and environment offers little hope of rapprochement. With the exception of energy these are issues that are either intra-European (immigration) or on which the EU and France do not see eye-to-eye (environment). On NATO, Sarkozy says he wants the alliance to co-operate smoothly on military matters with the EU. But he makes no hint of how to resolve the impasse that effectively keeps the EU and NATO from talking to each other. Worse (from the US perspective) he wants to strengthen the EU’s operational planning capacity, which has been a thorn in the side of both London and Washington.

On the other hand, where Sarkozy talks of issues that matter to the US – China, Iran, the Middle East – he strikes a line similar to Washington’s. That is true not only for Iran but also for the Middle East, Russia and China. Sarkozy comes down stronger on the side of Israel than any other French leader in recent history. He proudly calls himself a friend of Israel. He says peace with Palestine is very important but it will not happen if the Palestinians cannot form a government. Sarkozy called the Hamas takeover of Gaza “the first step toward establishing Islamic radical foothold on Palestine territories” and said that the Palestinian Authority must be rebuilt under its president Mahmoud Abbas.

On Russia and China Sarkozy strikes a realist tone. He ignores their domestic affairs altogether. Their foreign policies come for criticism. Sarkozy chided China for using monetary policy as a power tool, and Russia for using energy as a “brutal” weapon. (Interestingly, nowhere does he raise issues that made his foreign minister, Bernard Kouchner famous: the slide toward authoritarian regime in Russia, or violations of freedom of speech in China. In foreign policy, as in everything else, Sarkozy seems determined to run things directly from the Elysée.)

The overall impression Sarkozy leaves is that he is neither anti-American nor pro-American. He does not take cheap shots: although he notes that France was right on Iraq, he does not gloat. He states in the preamble that “the leaders of the past twenty years failed to construct a workable post-Cold war order”. But he is both right and diplomatic in saying so, so America should not take offence. The speech effectively removes America as the defining issue of French foreign policy. France will not view foreign policy as an opportunity to score points at America’s expense; it will judge the world’s problems on their own merits. Where Sarkozy does so, he finds that he has a lot in common with the US. But he will not go out of his way to restore America’s good standing in Europe; the Americans will need to do that work themselves.

Overall this is a very strong presentation. He clearly thought about foreign policy a lot. We have come to associate Sarkozy’s France with exuberant confidence but it bears remembering that only three years ago, the world looked very different through French eyes. The then-Foreign Minister Michel Barnier, also speaking in 2004 to assembled French ambassadors, lamented the decline of France in Europe (because of enlargement of the EU to include pro-US countries). Sarkozy could not have struck a more different note.

Tomas Valasek is director of foreign policy & defence at the Centre for European Reform.


Added on 09 Sep 2007 at 03:18 by Anonymous

ummm, the french national front has an explicitly leftist political programme

all fascist and neo fascist parties are leftist since totalitarianism is only on the left of the political spectrum

fascism is leftism as well as it advocates welfare state, anti America and anti Israel rhetoric

fascism = socialism

Europe in the US-UK special relationship

Europe in the US-UK special relationship

Europe in the US-UK special relationship

Written by Tomas Valasek, 02 August 2007

by Tomas Valasek

Gordon Brown scarcely mentioned Europe during his visit to the United States, certainly much less than Tony Blair used to. That is understandable. The current prime minister is blessed with the fortune of sharing his time in office with Angela Merkel and Nicolas Sarkozy, two pragmatic, Atlanticist leaders. Unlike Tony Blair, Gordon Brown does not need to worry about keeping the US and EU strands of UK foreign policy from coming apart. This gives him a freer hand in reviewing US-UK co-operation on key foreign policy issues.

Tony Blair sided with Washington over Iraq in part to keep the European Union’s common foreign policy from slipping into an openly anti-American stance. While he believed that removing Saddam Hussein was important in its own right, he also calculated that allying the UK with the US would keep Europe from trying to collectively weaken the US position on Iraq, and possibly elsewhere. (The exact intentions of messieurs Chirac and Schröder will always be subject to different interpretations. But their words and actions during the Iraq crisis strongly suggest that, in addition to heartfelt opposition to the US-led war, they also viewed the crisis as an opportunity to build the EU into a tool for balancing US power worldwide.)

The EU is now shaping the US-UK special relationship in subtle yet sometimes decisive ways. In the case of Iraq Tony Blair would likely have supported Washington irrespective of French or German views. But he clearly also felt that their opposition gave him little option; and that by breaking with Washington the UK would fuel anti-American tendencies around Europe, and possibly precipitate a permanent transatlantic split. The previous prime minister was dealt a terrible deck of cards: siding with Washington, Blair knew very well, meant plunging the EU into a foreign policy crisis – which it did, in 2003.

If only Blair had Gordon Brown’s current options. Four years later, both Chirac and Schröder are gone. Angela Merkel and Nicolas Sarkozy are far more pragmatic and Atlanticist than their predecessors. They are far less tempted than Chirac and Schröder to construct a European foreign policy identity on the basis of opposition to the US. And President Bush, too, has been chastised by the Iraq experience. His second administration is distinctly more multilateralist, less guns and more butter.

The role of Europe in the US-UK relationship has changed correspondingly. Unlike Tony Blair, Prime Minister Brown can afford to not worry about Europe as he reassesses the relationship with Washington. His European counterparts, by and large, have good working relations of their own with the US. Brown is far freer than his predecessor to refashion the priorities of US-UK foreign policy co-operation, knowing that a possible occasional strain in the relationship is not going to have wider repercussions in Europe.

Arguably, Britain has lost some of its usefulness to the US, too. Many find the idea of the UK acting as a bridge between the US and Europe fanciful. But, without UK leadership, the other Atlanticist EU countries, mostly new member-states in Central Europe, would have come under tremendous pressure from Germany and France to form a united EU front against the US. Tony Blair’s words and deeds demonstrably helped shore up support for the US in Europe. Gordon Brown is not likely to be called upon to play the same role. EU members are making far more pragmatic and less ideologically-driven decisions on their relations with the US than they were in 2003. As US-European ties become less confrontational, there is less need for the UK to play its balancing role within Europe.

Now that Gordon Brown is free to judge the US foreign policy on its own merit, without worrying about the EU context, what use did he make of this manoeuvring room at his meeting with George Bush over the weekend of July 25th- 26th?

Arguably, not much. Most of the change that stemmed from the summit was cosmetic. Gordon Brown clearly went to the US resolved to shake off the poodle image without undermining the special relationship. He succeeded in this. His cool, reserved demeanor with the US president restored dignity to London’s standing in the US and in Europe.

As far as substance is concerned, Brown sounded surprisingly hawkish on Iran (although more in his pre-trip press conferences than at the summit itself), while gently creating a little distance from Washington on the issue of a timetable for withdrawing troops from Iraq – Britain wants to be out sooner. But he may have missed an opportunity to clearly state his differences on the Middle East peace process. Britain is gingerly moving towards engaging Hamas and working with it to make it a legitimate and responsible actor. The White House has struck out in the opposite direction. President Bush last week announced a raft of initiatives meant to isolate Hamas and bolster its main rival, President Abbas. Gordon Brown remained largely silent on this point during his press conference with George Bush. This could mean that he agrees or – more likely – that he wanted to avoid a dispute in the open. And that is a pity. Because of the change of leadership in Europe, the prime minister is less constrained in his dealings with Washington than his predecessor. If he believes US policy on the Middle East to be wrong, this was the time to say it.

Tomas Valasek is director of foreign policy & defence at the Centre for European Reform.


Added on 02 Aug 2007 at 13:24 by Anonymous

It is quite funny to read Mr. Valasek's desperate tentatives to justify, ex-post, the disastrous foreign policy choices of Mr. Blair on Iraq. We have an expression in Italy, which reads more or less: "to try to climb the mirrors", and here indeed one can hear the annoying noise of nails scratching the glass...

According to Mr. Valasek, then, Mr. Blair should get a thank from EU citizens for his deliberate attempt (supported by the other two "bishops" of the European unity, Mr. Berlusconi and Mr. Aznar) to disrupt European unity (or better the little infant in the cradle which, at that time, was called that way). It was only thanks to Mr. Blair that a dangerous drift towards an EU foreign policy opposing the Atlantic choices would have been prevented(!)

Mr. Valasek seems to ignore, though, the lies and mendacities upon which those specific "Atlantic choices" were based, from the ridiculous lie of the never-found "weapons of mass destruction", to the subtle hints pointing at non-existing linkages between Saddam's regime and Al-Qaeda, to end-up with the comical attempt undertaken by Italian "intelligence" to demonstrate Saddam's tentatives to buy "nuclear fuel" in Nigeria.

If the whole issue was limited to these farcical acts, so similar to "Doctor's Strangelove"'s script to result laughable, then one could even enjoy the pleasure of a few moments of funny relax. But it is not possible to forgive Mr. Valasek for willingly forgetting the hundreds of thousands of Iraqi civilians casualties the war has resulted in, the extreme poverty it threw the large majority of all population of that country, let alone the incredible mess it has generated in the relations between west and middle-east and the consequent loss of credibility for all western countries in that part of the world. Had it resulted in defeating terrorism at least, one could still save a good thought, but analysts agree in acknowledging that Iraq has become a formidable gym for training terrorists, and we will have to face the consequences for the years to come.

I am sorry Mr Valasek, but I remember those days, when Mr. Chirac and Mr. Schroeder, strong of the clearer picture they had of the situation in that part of the world, were begging Mr. Bush not to put the western foot in the Iraqi wetlands, having very few chances of getting anywhere. The situation in Iraq today is in no way different from the picture they depicted at the time. So please, Mr. Valasek, why don't you explain us in which way their decision not to support the Atlantic ally in the suicide it threw himself was wrong?

A good friend is someone who told you frankly when you are going to make a big mistake, even if this is not what you want to hear. Mr. Blair would have been a much better friend for Mr. Bush if he clearly told him not to go on that road; he preferred instead to please his friend with sweet words "yes my dear, you are always right". One cannot tell history based on hypothesis, but not even Mr. Valasek can deny that Mr. Bush probably had to think one more time whether invading Iraq was a good idea, had the support of UK been missing. Let's hope Mr. Brown will adopt a more mature stance if he really wants to show his atlantic friendship.

A little final remark. It is not surprising that Mr. Sarkozy and Ms. Merkel have a slightly different approach today: theirs is a pragmatic approach in which recriminating on the broken glass would not do any good, neither to Washington nor to Brussels. But in no way you are authorised to think that had they to cope with the decision whether to support Washington in the Iraq suicide, they would act differently from their predecessors.

Bridging the Atlantic: Domestic politics and Euro-American relations

Bridging the Atlantic

Bridging the Atlantic: Domestic politics and Euro-American relations

Written by Mark Nelson, 05 December 1997

Race to the bottom

Race to the bottom

Race to the bottom

Written by Tomas Valasek, 24 August 2011

by Tomas Valasek

For decades, European countries cut defence budgets with little worry. The United States kept enough troops on the continent to deter all potential enemies, almost irrespective of how small European militaries became. But the US contingent has been steadily shrinking, and the pace of this downsizing now seems certain to accelerate because of the economic crisis. The Europeans should be worried – yet they will probably respond by hastening their own defence cuts.

The July 31st agreement under which US Congress increased the ceiling for national debt cuts defence spending by $350 billion over the next ten years, White House calculations say. However, the deal also calls for a joint committee of six Democrats and six Republicans to find ways to decrease the deficit by another $1.5 trillion. The lion’s share of those reductions is certain to come in the form of expenditure cuts (as opposed to tax increases). And these further cuts – even if spread across government departments – will include significant reductions in the Pentagon budget, beyond the $350 billion that it is already scheduled to lose. Military spending now consumes more than 20 per cent of the total federal budget (for comparison, in the UK the figure is 6 per cent). Assuming that the joint committee makes roughly proportional cuts among government departments, the Pentagon will lose another $250 billion; this would put total reductions in military spending at $600 billion over ten years.

There is also the possibility that members of the committee will fail to agree, which would be even worse for the US military. Under the borrowing agreement, such a failure would lead to an automatic imposition of a $1.2 trillion cut in government spending, half of which would come straight from the Pentagon’s budget (for accounting reasons, the final amount would be slightly less than half: $534 billion). Including the $350 billion in cuts agreed last week, total loss to US defence spending over the next ten years could thus reach nearly $900 billion. The Republicans have been traditionally supportive of defence spending so in theory they have strong reasons to work with the Democrats on averting such draconian cuts to the military. But Democrats want further deficit reduction to include tax increases, which the Republicans oppose. And the ‘new’ Republican party is considerably less pro-defence than it used to be in the days of John McCain and Bob Dole; its top priority now is deficit reduction. If Democrats insist on tax raises, there is a chance that Republican members of the joint committee would rather choose an impasse, even if this led to deep defence cuts.

Whether the final amount is $600 billion or close to $900 billion, reductions of such magnitudewill have considerable impact on contractors and allies around the globe. One mitigating factor is that the cuts will be calculated on the basis of future projected spending (which was scheduled to rise) rather than current spending. Also, after 13 straight years of increases, the defence budget has reached a monumental $530 billion in fiscal year 2011 (not including another $160 billion allocated specifically for the wars in Iraq and Afghanistan). However, much of this amount is committed to manpower and benefits. Military healthcare alone consumes around $50 billion a year, and Congress is unlikely to agree to reduce it before the 2012 elections. The brunt of the newly ordered cuts will therefore fall on relatively few budget categories. Research is likely to suffer (because it can be cut with little immediately visible impact) and so is procurement (because some new weapons have incurred controversial cost overruns).

Importantly for America’s allies, many of the cuts will lead to closure of overseas bases. These have no political constituency in the United States, and thus no defenders in Congress, which will have to approve cuts. Europe is certain to suffer disproportionately in any future base closures. The continent is not high on the Defense Department’s list of priorities and it is seen as relatively free from danger. The allies have capable militaries, which, the Pentagon believes, should be able to assure security of Europe’s periphery (in places such as Libya) with little US help.

Even before the latest cuts, in April 2011, the Obama administration ordered the withdrawal of one of the four remaining US brigade combat teams (BCTs) from Europe. This was a less dramatic reduction than the one that George Bush’s government initially ordered in 2004 – then, the Pentagon decided to cut half the BCTs but subsequently put the decision on hold because they were needed in Afghanistan. In reducing the cut to just on BCT in 2011, the Pentagon cited the need to assure allies (mainly in Central Europe) that Washington remains committed to their defence. But it now seems very probable that the Defense Department, under pressure to save money, will withdraw the second BCT after all.

Many US military facilities in Western Europe are in danger. Their number has gradually dwindled as the US reduced forces from the Cold War average of 311,000 to fewer than 80,000 today. Many more will now be closed. The US military sees the smaller bases in particular as a source of relatively easy savings. While installations such as the large US military hospital in Landshut, Germany are likely to fare well, the 700-strong US Air Force base in Lajes, Portugal, will probably go. Non-essential facilities such as the George C Marshall Center in Germany (a school for military officers, mainly from Eastern Europe and Asia) are also vulnerable.

These departures are certain to be unpopular with local governments around Europe, some of which will suffer a double or triple setback. In addition to expected US base closures, NATO and national governments have also been cutting budgets and forces. Portugal, which will probably lose Lajes, had recently seen NATO decide to close its ‘Joint Force Command’ near Lisbon. Germany plans to close many of its own bases to save money; it now stands to lose some of the US ones as well. The closures will cause tensions among local and national governments but the impact on transatlantic relations will be limited – because virtually all allied capitals are reducing forces, none will be in a position to complain. But the US and European militaries will lose some of the existing opportunities to train together. And the loss of schools such as the George C Marshall Center would deprive the allies of the ability to win the hearts and minds of young officers in dangerous parts of the world such as South Caucasus and Central Asia. 

With cuts to US defence budget looming, the US will also forgo its ability to pressurise the Europeans against reductions in their own spending. Apparently at the first meeting between Leon Panetta, the new Pentagon chief, and Liam Fox, the UK defence secretary, the two swapped lessons on how to cut budgets with least political pain. A year ago the US defence secretary would have sought to restrain the UK from cutting in the first place.

There is a real danger that cuts on one end of the Atlantic will encourage more cuts on the other end, thus degrading NATO’s credibility. While some of the bases that the United States is thinking of closing may well be redundant, NATO defence guarantees will lose their meaning unless the allies maintain a certain minimum number of forces and military installations. In theory, the Europeans should be responding to US force cuts by studying whether NATO is close to reaching this threshold, and whether they need to augment their forces to replace the departing US ones. But the opposite is likely to happen: without US pressure, many European governments will feel freer than ever to reduce military spending and forces. This may yet turn out to be the most significant and corrosive legacy of current US budgets cuts for allied security.

Tomas Valasek is director of foreign policy and defence at the Centre for European Reform.


Added on 24 Aug 2011 at 14:10 by K Bledowski

A thoughtful analysis. In the end, the true game-changer from the U.S. military cuts will be not the fewer dollars and cents spent, but the ability to project power and defend U.S. interests. Should this ability erode, then Anne's comment (above) makes all the sense.

Added on 24 Aug 2011 at 12:28 by Anonymous

Dear Tomas Valasek

To solve the problems of EU about the foreign policy and defence, I think you should first discover or solve the following problems regarding the EU;
1. honesty
2. stop playing a game between eachother and between the other countries,
3. potential bad/or wrong communities, societies, countries in EU
4. working with priniciples,
5. stop thinking that all the good and/or wright things are in EU only,
6. stop pusshing some good and/or wright ideas (due to EU) to toher countries where these are creating some other conflicts in other ares in bad and/or wrong way because of there are god and/wright things in other countries where you dont know yet,
7. other

There are lots of notices I can offer, but I dont want to support some potential bad and/or wrong parts of the UE directly or indirectly.

I suggest you to solve these problems first. It will be helpful to solve other foreign policy and defence issues.

For better understanding you can take a look at to the book "Ülkeler Birliği (Countries Union) given in the Facebook: Refet Ramiz

Assist.Prof.Dr.Refet RAMİZ

Added on 24 Aug 2011 at 08:49 by Anne

For me, NATO lost my respect in the bombing of Libya. The setting up of a "no fly Zone"? What was that all about? The UK was taught a very valuable lessen in 1939, one that sadly this present Government has forgotton all about. I predict that there will be more wars-violent wars in the fairly near future, by Countries that have increased their forces while over-confident Governments have reduced theirs.

The EU should talk to Hamas

The EU should talk to Hamas

The EU should talk to Hamas

Written by Charles Grant, Clara Marina O'Donnell, 11 July 2007

by Charles Grant and Clara O’Donnell

The conspicuous role of Hamas in the recent release of Alan Johnston was not only good news for the BBC correspondent. Hamas showed that it cares about how it is perceived abroad, that it wants to be considered a credible actor, and that it hopes to end its international isolation. This means that the EU and other outsiders have potential leverage over the organisation that rules Gaza. Several European governments believe that the Union should rethink its current policy of refusing to engage with Hamas. They argue, with much justice, that the attempt to weaken Hamas by isolating it has failed; and that this policy seems to have strengthened support for Hamas among Palestinians, while Fatah, its great rival, has suffered from being seen as the West’s favoured friend.

It is time for the EU to consider talking directly to Hamas. Currently, the position of the EU – alongside the other members of the quartet, the UN, the US and Russia – is that it will not talk unless three conditions are met: recognition of Israel, renunciation of violence, and acceptance of existing peace accords. And there remain many good arguments against the EU engaging with this Islamic group, such as its ambition for Islamic rule, its refusal to recognise Israel's right to exist, its links to violence and terror, and its numerous rocket attacks on Israelis. Although it won the last Palestinian elections, Hamas used force to seize power in Gaza in June 2007. That episode damaged its international credibility and its legitimacy as a winner of democratic elections, and it also limited the chances of getting Hamas and Fatah to work together constructively. Without a single government accepted as legitimate by most Palestinians, Israel has no partner to make peace with.

However, the EU should take note of some conciliatory moves from Hamas since it won the elections in January 2006. Hamas respected a unilateral ceasefire for six months. And when it became part of the government of national unity that was brokered by Saudi diplomacy at Mecca, Hamas tacitly accepted the Palestinian Authority’s existing international agreements. Furthermore, while Hamas has still not officially recognised Israel, its leader in Damascus, Khaled Meshaal, has said that the state of Israel is a "reality" and that “there will remain a state called Israel, this is a matter of fact”. At the moment Hamas is clearly not the kind of credible international actor that could be a serious partner for Israel; the argument is over the best way to turn it into such actor. And it is clear that the current policy is not working.

The EU should recognise that the policy of boycotting of Hamas but showering favours on Fatah in the West Bank has been at best ineffectual, and at worst it has contributed to radicalising Hamas and provoking Fatah’s overthrow in Gaza. The grim gap that now separates the two parts of Palestine is imposing unacceptable humanitarian costs – the Gaza economy is already in a dire state, largely because Israel closes most of the border crossings most of the time. So long as the EU continues to reject the outcome of legitimately-conducted elections, it exposes itself to accusations of double standards and reduces its credibility in the eyes of the many in the Arab world.

The EU should seek to entice the moderate elements in Hamas with the prospect of recognition and financial assistance, in exchange for good behaviour and a constructive attitude towards talks with Fatah. That could facilitate the return of a single government for all the Palestinian territories, which is a precondition for the revival of the peace process. The EU should not abandon the concept of conditionality, but of the three conditions the one it should worry about is the renunciation of violence. Were Hamas to return to suicide bombs or rocket attacks on Israel, the EU should have nothing to do with it.

Of course, there can be no peace in the region without the support of Israel and the US, both of which are strongly opposed to the recognition of Hamas. The EU must think very carefully about how it sells a new policy on Hamas to Israel and the United States. The ultimate goal in the Middle East is peace between Israel and the Palestinians, and if EU engagement with Hamas leads to a breakdown in the Union’s relations with Israel and the US, it will have achieved little. But the EU has a very strong argument to make. In the long term, it is in Israel’s interests that the moderate elements within Hamas – the strongest political entity in Palestine – be strengthened. Talks between the EU and Hamas could and should focus on that objective. The very process of talks with Hamas could have a transformational effect on the organisation, as was the case with the talks between the British government and the Irish Republican Army. Evidently, the talks might not produce that positive outcome. But neither the US nor Israel can claim that the status quo is doing much to enhance the security of Israelis.

The US, in its current pre-election phase, will be very reluctant to contemplate talking to Hamas. But in the Bush administration – which does not have to worry about winning votes in the next presidential election – moderates such as Condoleezza Rice now have the edge over hard-line Israel-firsters such as Dick Cheney. It is not inconceivable that the US could discreetly encourage the EU to take the lead in engaging with Hamas (as it earlier encouraged the EU to talk to Iran), while itself remaining aloof. The broader regional perspective may yet encourage the US – and possibly even Israel – to welcome the EU playing such a role. Given the growth of both Islamism and Iranian influence in the region stretching from Lebanon to Afghanistan, the US could reason that engaging Hamas would help to prevent an increase in the influence of either Iran or al-Qaeda in Gaza.

Charles Grant is the director and Clara O’Donnell is a research fellow at the Centre for European Reform.


Added on 26 Jul 2007 at 21:00 by Anonymous

Hamas are a neo-nazi organization so therefore its: HELL NO

Only fascists would suggest talking to Hamas (or their fellow nazi organizations Hezbollah and Ba'ath)

Europe's defence industry: A transatlantic future

Europe's defence industry

Europe's defence industry: A transatlantic future

Written by Charles Grant, Gordon Adams, Alex Ashbourne, Luc Boureau, Bruce Clark, Chris Crane, Keith Hayward, Theresa Hitchens, Robbin Laird, Denis Verret and Stephan von Henneberg, 02 July 1999

The impact of the euro on transatlantic relations

The impact of the euro on transatlantic relations

The impact of the euro on transatlantic relations

Written by Steven Everts, 07 January 2000

The EU, the US and Taiwan

The EU, the US and Taiwan

The EU, the US and Taiwan

Written by Charles Grant, 16 April 2007

The EU, the US and Taiwan

by Charles Grant

Taiwanese domestic politics is nasty and messy. The two main political forces – the KMT, which believes in ‘one China’, and the DPP, which leans towards an independent Taiwan – hate each other with venom that is unmatched in most other functioning democracies. But the country is pluralistic, with a free press and fair elections. Since Taiwan’s politics are so much more ‘western’ than those of the People’s Republic of China (PRC), it ought to have many friends in the western democratic world.

But it has few close friends. Both the Americans and the Europeans know that they must be on good terms with China. It is simply too important, economically and strategically, to have as an enemy. Therefore ministers in most western governments are careful not to meet their Taiwanese counterparts on an official basis, lest China get annoyed. And they tolerate the fact that China excludes Taiwan from many international bodies, such as the World Health Organisation. Of course, there are some policy-makers in the West who think that democracies should stand by other democracies. The much-maligned neo-cons, for example, give moral support to Taiwan, as do some idealists of a more liberal persuasion.

American policy on Taiwan is both realist and idealist. The US supports the status quo, meaning that it opposes Taiwanese independence. But the US also promises to defend Taiwan in the event of a Chinese attack. That promise is deliberately couched in ambiguous terms, to discourage the Taiwanese from provoking China, and to dissuade China from taking military action.

Having made no commitment to defend Taiwan, EU policy is much simpler. The EU does not see China as a strategic competitor, since – unlike the US – it is not an Asian power. So it has a clear policy of engagement with China, of supporting the status quo across the Taiwan Straits, and of being friendly towards Taiwan – but not so friendly that China would become annoyed.

The EU and the US agree on the goals of stability and the non-use of force across the Taiwan Straits. But Americans care much more about Taiwan, for the understandable reason that American blood and treasure could be shed in its defence Such emotions explain why the US over-reacted over the EU’s tentative moves towards lifting its arms embargo on China two years ago (there were good reasons why the EU should not have lifted the embargo at that time, but it was hard to have a rational discussion with some Americans over the matter, such was the strength of their feelings; they talked of the Chinese firing French missiles at American troops fighting on the beaches of Taiwan).

European views have shifted somewhat over the past two years, to be slightly more sympathetic to Taiwan. The fact that China passed the Taiwan secession law, which promises the use of force if Taiwan moves towards independence, was good PR for the Taiwanese. And the replacement of Gerhard Schröder by Angela Merkel has made a difference. She is a little more critical than her predecessor of large countries that abuse human rights, and opposes lifting the arms embargo. The departure of Jacques Chirac is also likely to affect EU’s China policy: he has been the leading proponent of lifting the embargo.

In some ways, the status quo is not so bad for Taiwan. The country is rich, successful and free, and many of its people enjoy a good quality of life. The problems for Taiwan are, firstly, its status – it is not allowed to do many of the things that normal countries do; and, secondly, its insecurity – almost a thousand Chinese missiles are pointing at it.

So the US and the EU are right to tell the Taiwanese not to rock the boat. This, along with a sensible US China policy balancing engagement with a promise of a military response to an attack on Taiwan helps safeguard the status quo, probably the best option available to Taiwan at the moment. In time, burgeoning economic ties between Taiwan and the mainland should make each side very wary of taking provocative actions that could threaten the prosperity of both – whatever the nature of the political relationship between the two. Ties between businessmen and politicians in Taiwan and the PRC are growing all the time. China is also democratising, slowly but surely, which increases the odds of peaceful reunification. Perhaps in the long run Taiwan can offer China an example of how prosperity, order and stability can co-exist with liberal democracy.

Charles Grant is director of the Centre for European Reform.


Added on 17 Apr 2007 at 19:22 by James

As Director Grant said that “ministers in most western governments are careful not to meet their Taiwanese counterparts on an official basis… And they tolerate the fact that China excludes Taiwan from many international bodies, such as the World Health Organization.” It means that Taiwan has been unfairly treated by many countries for too long.

Taiwan has been excluded from the United Nations and its related organizations since 1971, such as mentioned World Health Organization (WHO). According to a recent local poll to Taiwanese, up to 94.9% of the Taiwan public supports the nation's entry as a member of the WHO and that Taiwan should enter the organization under the name "Taiwan." Therefore, President Chen Shui-bian is sending a letter to WHO Director-General Margaret Chan Fung Fu-chun to express Taiwan's hope to apply to become a member of the organization under the name "Taiwan."

Many endorsements to Taiwan’s bid to WHO arise from global community.

Peter Kramer, the International Secretary-General of the Association of European Journalists, has regularly spoken on behalf of Taiwan in recent years noting how unfair it has been that Taiwan has not been able to enter the WHO. In an article of a recent edition of European Business magazine, he expressed his hope that European nations will assist Taiwan in participating in the WHO.

World Medical Association President Kgos Letlape recently pledged to do his best to facilitate dialogue between the Taiwan Medical Association and its Chinese counterpart to seek ways of resolving the differences between the two sides. "One of the biggest reasons why China has been so opposed to Taiwan's participation in the WHO is the name issue," he noted. "By holding an open dialogue, the two parties would have an opportunity to express their opinions and try to reach a middle ground on the issue."

Furthermore, Malawi Minister of Health Marjorie Ngaunje argued that Taiwan has every reason to be part of the international health watchdog because "all people have the right to health and life….The WHO is an organization designed to create more international collaboration on health issues. Although Taiwan is not part of the organization, it is already doing its part by holding such forum," she said.

A global petition “Say Yes to Taiwan's Bid to WHO” is appearing in website. I would recommend everyone to login and click “Yes.” The address is as follow.

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