Opinion: How Much Euro Decline Will Obama Tolerate?

The Obama administration's stance towards Europe has performed a dramatic about-face. The benign neglect that characterized its early months has been replaced by deep concern that the contagion shouldn't cross the Atlantic. Media reports have it that Washington gave Europe's politicians a significant nudge to get over their differences and assemble the historic €750 billion bailout package of loans, loan guarantees and credit in their battle against contagion.

It is reminiscent of the early Second World War period, when an isolationist America thought it could safely turn its back on Europe's disintegration until wiser heads realized Europe's troubles were America's troubles.

A Good Thing for Europe

Actually, Obama's early neglect of European interests, when he chose to devalue the dollar to bolster US employment in the export sector, proved anything but benign in its consequences for Europe.

The European monetary union always has been a fragile structure that could only take a limited amount of shock without cracking. The euro at $1.60 turned out to be the shock that broke the camel's back, fracturing Europe's south from its north. Even the Germans had difficulty exporting at that vastly overvalued exchange rate.

Now, the common currency is heading south in a hurry as investors contemplate the possibility that the euro zone will break up.

This is a good thing for Europe, because currently the declining euro is Europe's most effective tool for generating sufficient economic growth to cover its budget deficits.

The more the currency corrects its overvalued position, the more robust European exports will be -- and it won't be Germany alone that benefits. Europe's south also gains from a lower euro, both directly (it will be a busy tourist season in Greece this summer) and because higher German growth means increased German imports from Greece, Spain, Portugal and Italy.

The euro will have to sink a lot lower (maybe to parity with the dollar) before the growth it generates for Europe can make a significant dent in those troublesome budget gaps. How much euro decline is the Obama administration willing to tolerate before deciding enough is enough? Washington matters, because it can stop the euro's descent by intervening in the foreign exchange markets.

Isolationist Rumbling

Obama's concern that Europe's sovereign debt crisis be contained virtually guarantees the US will not soon protest a continued decline of the euro. Besides, the US economy is performing much better than many had anticipated. It is in a better position to absorb the competitive consequences of the dollar's increase than at the beginning of Obama's term in office.

What also matters is that the euro's decline is not a beggar-my-neighbor policy to gain an unfair trade advantage -- rather it is a symptom of the sovereign debt crisis that is tearing Europe apart. This makes it easier for Washington to accept.

Still, there is isolationist rumbling emanating from the US Congress. Concerned that US taxpayer money might be used to bail out infected European governments via the International Monetary Fund, the US Senate passed a measure this week by a 94-0 vote that would require the Obama administration to certify that any future loans made by the IMF be fully repaid. "Greece is not by any stretch of the imagination too big to fail," said the sponsor of the measure.

US Treasury Secretary Timothy Geithner's response that the US "has a big stake in helping Europe manage through these things" was both correct and reassuring. This does not sound like a man likely to be hijacked by isolationist interests into short-circuiting the euro's continued decline.

Fighting contagion is bringing America and Europe closer today, just as fighting fascism united us 70 years ago.