Thursday, 13 September 2012

How did the Pope destroy the Euro?

When discussing the contemporary European crisis, many people think about the Euro as a first-of it's kind concept which is doomed to fail exactly because there are no historical examples – but that is simply not true. The „Euro of the 19th century”, the Latin Monetary Union was actually the first example of a monetary union – and while in the end it failed, it's lessons were remembered and used when creating our contemporary common currency. And what did it have to do with the Pope(or precisely, the Papal States)? Read below.


How did it start?

With the introduction of worldwide bimetal and later, gold standards, and the rise of international trade, several countries wished to make a step further from their de-facto fixed exchange rates, and create a monetary union. Hence, in 1865, France, Belgium, Italy and Switzerland decided, that while they would uniformise the size and weight of their silver coins, and make their currencies interchangeable.


The concept had unprecedented success, and regardless of daily political alignments, many countries wanted to join – as Greece and Spain did so in 1868, and later Romania, Serbia, Bulgaria, San Marino, and intriguingly, Venezuela – thus making the only intercontinental monetary union so far. With the union, a f.e. French trader could easily accept Italian liras, knowing that he would be able to convert back the Italian liras to his native currency at a fixed price. This bolstered trade relations between countries.

The Papal Troubles

The first troubles however immediately showed after the beginning of the union – the Treasury minister of the Papal States – a then de-facto French-controlled entity – decided to start to mint new coins which contained less silver than the guideline. Since there was no single central bank to control this, they could do so freely, and soon Papal coins flooded the common Latin markets, themselves inflating, but meanwhile bringing huge profits to the Holy See. The Union members in the end, excluded the Papal States from the Union – but the problem lying at the core, the lack of a central authority, was never resolved.

The silver-gold dilemma

When the union was created, the silver coins were pegged to the gold, at a rate of 15.5 ounces of silver to 1 ounce of gold. This inflexibility of prices and the manipulation possibilities soon lead to another crisis. When the California silver mines were discovered in the 1870's, the metal's price fell sharply, which meant that suddenly it became profitable to change silver to gold – profits without risks, also called arbitrage. While countries using a gold standard didn't suffer, those using a silver one like the LMU did – and while in the end they managed to change to a de-facto bimetal standard with gold being the priority, the instability caused by the decision greatly weakened the union's integrity.

Final years and legacy

The increasing international political hostility starting from the 1890's soon made every effort for international cooperation impossible, be it monetary or else. Hence, the LMU countries one by one started to inflate their currencies, with noone there to punish them – and when the First World War broke out in 1914, the union practically came to an end (although legally it was only dissolved in 1927).
The ill-fated Latin Monetary Union did not stop the Norse countries from creating a similar one, named the Scandinavian Monetary Union. More importantly, it also had an important lesson for monetary unionmakers – monetary union's, like any sort of money-issuing, must be backed up by an independent central authority. The Euro itself adheres to this – the current crisis has different roots, which will be throughly explained in a later post.

Would you like to know more about the Scandinavian Union, or do you have questions? Ask us in comments.

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