May 19, 2010 / 12:37 AM / 10 years ago

UPDATE 1-Volcker: Crisis poses big test for euro currency

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WASHINGTON, May 18 (Reuters) - The European debt crisis poses a big test for the euro currency and the economies hit by the problems face a long, difficult road to recovery, former U.S. Federal Reserve Chairman Paul Volcker said on Tuesday.

Volcker, a special adviser to U.S. President Barack Obama, told Bloomberg radio in an interview that fiscal austerity could not be avoided for smaller European countries under speculative attack.

But Volcker said that if growth picks up in larger economies such as Germany and France, that would ease the struggles for European countries forced to slash their budgets.

“Obviously, it would help a lot if the rest of Europe, the strong part of Europe ... if they have more growth, that will help these countries on the periphery,” Volcker said.

He said the smaller countries have no choice other than to pursue fiscal austerity, along with reforms that will make their economies more competitive.

“That’s a process that’s going to take years,” Volcker said.

“This is a big test for the euro. There is no question about it because some countries — some of the smaller, weaker economies — have gotten out of touch with equilibrium in the system and it’s forcing adjustments.”

Asked whether a “race to the bottom” devaluation of the euro or British pound would help the problem, Volcker replied: “I do not think so.”

Volcker said past experience showed that a deliberate pursuit of a cheaper currency could lead to inflation and instability rather than healthy growth.

Volcker called the $1 trillion European rescue plan “breathtaking” in size. He disagreed with critics of the European Central Bank who believe its role in the rescue might compromise its independence.

“I don’t think they’ve lost any credibility in the process,” he said. (Writing by Caren Bohan; Editing by John O’Callaghan)

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