Europe's Currency

HURRICANE MAASTRICHT HIT EUrope a week earlier than expected, and with a roar that all but drowned out France's fateful vote on European integration. In its wake lay a twisted political and economic landscape that may never look quite the same again. Battered as never before in its 13-year history, the European monetary system will need extensive repairs if it is to serve as the cornerstone of some future monetary union. Britain, where a parliamentary vote in favor of the treaty on European unity had once been a foregone conclusion, emerged from the tempest in a shaken and vengeful mood, facing a political crisis. Europeans elsewhere were praying that what they experienced was the storm before the calm. But nobody was foreseeing that the good ship Europa would reach safe haven anytime soon.

Like many a natural catastrophe, Europe's monetary storm blew up with little warning, though the clouds had been darkening since June, when Denmark narrowly rejected the Maastricht treaty. Named for the Dutch city where it was signed last February, the pact provides for the eventual political union of the European Community, a common foreign and security policy, and most important, a single European currency by 1999.

On Monday, Sept. 14, Germany's central bank allowed a key interest rate to slip for the first time in five years, from 9.75% to 9.5%. The cut was hardly a generous one on a Continent desperate for cheaper credit and stronger growth, but it was enough to set off foreign-exchange traders already nervous about the upcoming French referendum on Maastricht.

The markets surmised that the German central bank really wanted a fundamental realignment in the exchange-rate mechanism that tied the E.C.'s 12 currencies together. Within 24 hours, traders drove the British pound below the minimum level agreed on by governments, and Prime Minister John Major was forced to take his currency out of the rate-setting mechanism. A hastily recalled Parliament will press him this week to reconsider the Community's goals, and a number of members will demand that at the very least he allow British voters a say on whether or not to ratify Maastricht.

The Italian lira found itself under attack too, even though Rome had tried to anticipate traders with a 7% devaluation at the beginning of the week. Italy quickly followed Britain out of the European Monetary System. Meanwhile, the Spanish peseta was devalued by 5%, and Sweden (not a member of the European Community, but exposed to its economic winds) raised its overnight interbank lending rate to a towering 500% in a desperate bid to support the % krona. As the Germans resisted pressure for a further cut in interest rates, the French, Danish and Irish currencies all found themselves struggling at the bottom of their permitted exchange rates, and the European monetary system experienced its worst week ever.

It is in the nature of free markets that they correct themselves if imbalances occur, so it was inevitable that the European system would eventually come under pressure, given the diverging performances of its member economies: while Germany and France are growing slowly, recession has hit Britain and Italy hard.