Davos 2013

01.25.13

Davos World Economic Forum: George Soros Issues Euro Warning

The legendary trader has some strict words about the European bailout—and he cautioned there are “turbulent” times ahead for the continent. Daniel Gross reports from Davos.

George Soros, slightly frail, at 82, is no longer active in the money-management business. But the legendary hedge-fund manager still has pointed views on the global economy, the markets, and politics. On Thursday night, at the Hotel Seehof in Davos, he held a group of financial journalists rapt for nearly two hours as they dined on mango salad and beef. At the heart of Europe, as the European financial establishment celebrated its success at beating back the crisis, Soros issued a stark warning. The agreement by the European Central Bank to intervene in government bond markets, supporting the sovereign debt of Italy and Spain with purchases, has worked, to a degree. “The euro is now here to stay, and the markets are reassured the immediate crisis is over,” he said. But in saving the euro, the continent’s financial powers have damaged the economy of the euro zone and created dangerous new political imbalances. As a result, “we have quite a turbulent time ahead for 2013.”

Soros, of course, has a complicated relationship with Europe. Born in Hungary, he survived the Nazi occupation, and later made his name betting against the British pound and the Bank of England in the 1980s. Now retired from active money management, Soros said that he is “spending my time developing my philosophy of ‘imperfect understanding’ and reorganizing my foundation so that it can actually survive me.”

At the World Economic Forum, you can sit in on dozens of panel discussions and hear different varieties of the same economic conventional wisdom, rendered in generally bland rhetoric. But Soros has a few contrary views, and a willingness to air them forthrightly.

That’s not surprising, given his personal history, but Soros also has a few positive things to say about Germany and its performance in the rolling European crisis. By intervening in government debt markets—only after German Chancellor Angela Merkel agreed—the European Central Bank may have saved the currency, but damaged the continent that uses it. “Germany did the minimum that was necessary to save the euro,” he said.

The result now is that the euro zone is effectively divided into creditors (countries like Germany, Holland, and the Scandinavian countries) and debtors (Greece, Spain, Italy, Portugal, Ireland). “The creditors are in charge, and are unfortunately arguing for a policy of austerity, which is counterproductive,” he said. While the ECB and IMF have made budget cuts and tax increases a condition of receiving aid, he notes, “You can’t reduce excessive debt by reducing the GNP.” He said austerity is pushing the euro zone into recession, which will further aggravate political tensions.

The danger now is that the European Union, a voluntary association of equal states, is in danger of devolving into a system “where Europe is divided into the center and the periphery, with the center controlling policy and the periphery used to a permanently inferior and subordinate situation."

There are also problems brewing between Europe and other developed countries, with Soros citing evidence of what he calls “an incipient war in currencies.”

Soros equated this to the post–World War II era, when the U.S. and the developed world controlled the flow of capital and subjected the developing world to very sharp financial discipline. “The political problem [in Europe today] is that the creditors, particularly Germany, are in charge,” he said. “And effectively nothing can be proposed on the European level without first checking with Germany if it is acceptable.” The upshot: the financial solution to the continent’s problems “is politically unacceptable, and, in the long run, intolerable,” Soros said. “So the euro is in danger of destroying the European Union.”

There are also problems brewing between Europe and other developed countries, with Soros citing evidence of what he calls “an incipient war in currencies.” Virtually alone among developed economies, Europe’s central bank is not engaging in quantitative easing. After years of stagnation, Japan has elected a government that is finally pushing for (and getting) more aggressive monetary policy. The goal is to make the yen weaker against other countries’ currencies, which will boost exports. “This is something of a direct challenge to Germany,” Soros said, because Japan and Germany compete for high-end exports. (A weaker yen gives a Japanese-made Lexus an advantage over a German-made BMW.) “The divergence between the Japanese yen and the euro will be aggravated, and that will have a negative effect on Germany’s performance,” Soros predicted. The result: potential rising tensions between Germany and Japan.

Other sources of volatility include China, where a rise in personal political expression may lead to repression, or may be channeled into external conflicts with countries like Japan. “The Japan-China conflict is already one of the sharpest ones in the world,” he said. And Soros has particularly harsh words for Russia. “Investing in Russia, I think, is a big mistake.” The Putin regime, he said, “doesn’t respect the rule of law.” As a result, Russia is suffering capital flight and brain drain, and is growing weaker. “So I think Putin has to cling to power because it the only place he can feel safe; for his personal safety,” he said. “Inevitably, things are moving, and I think Russia will open up, but not necessarily in my lifetime."

Soros had generally had positive words for the U.S. economy and the performance of the U.S. Federal Reserve. An Obama supporter, he identified the Democratic Party’s three main financial supporters as trial lawyers, civil-servant labor unions, and “bleeding heart liberals like me.”