By Mike Dolan
LONDON (Reuters) - If the euro zone loses the global 'currency war', the price will be paid in growth and jobs and fresh tensions about the future of the bloc.
Whoever wins the 'war' eventually, few doubt the euro area has been routed in the latest monetary battles between countries printing and depressing home currencies in part to retain trade advantage in a growth-sapped world.
Japan's plan to aggressively weaken the yen has been the most recent salvo. But that merely counters open-ended bond buying and dollar creation by the U.S. Federal Reserve, pound printing in Britain or even Swiss intervention to cap the franc.
It leaves the European Central Bank as the only operator of the "Big Four" reserve currencies still unable or unwilling to create new cash and put a lid on its exchange rate over time.
That fact was underlined last month by early paybacks on what had been the ECB's proxy printing plan of cheap long-term loans to euro banks (or LTROs) - repayments which have lead to an untimely shrinkage of the ECB balance sheet as its economy shrinks, creeping short-term interest rates and a rising euro.
The euro has now soared 20 percent against Japan's yen in just three months, 8 percent on sterling and 7 percent on the dollar - the latter compounding gains against a host of dollar-pegged, emerging currencies.
ECB chief Mario Draghi pointed out last month that the euro's trade-weighted index has been better behaved and still down more than 10 percent from 2009 peaks.
Yet this euro index too has rebounded 6 percent since November and is up almost 9 percent since Draghi's "whatever it takes" speech in July defused the bloc's sovereign debt crisis.
Morgan Stanley economist Elga Bartsch said there is a risk of the euro "overshooting" and derailing the zone's tentative stabilisation by sapping exports, capital expenditure and corporate profits.
"A much stronger euro could challenge the positive market vis-a-vis the periphery and structural improvements in competitiveness seen there," she said.
An irony of course is the euro's rebound is partly due to the healing of the bloc's crisis since July and the return of investors to peripheral bond and equity markets.
But for all that relief, an expected contraction of the bloc's economy for the second year running in 2013 means it's also the area least able to absorb a currency hit right now.
Morgan Stanley's 'ready reckoner' shows a permanent 10 percent euro index rise could shave 0.5 percentage points off growth over the next year and sink its forecast for a 0.5 percent drop in growth in 2013 to a loss of almost 1.0 percent.
Enter anxious leaders. Calling for a medium-term euro exchange rate target to guide policy, French President Francois Hollande on Tuesday warned of 'irrational' currency moves at odds with the underlying economy.
But with little clarity yet on what that would involve, many look to Draghi to ride to the rescue yet again and hope for some hint of future interest rate cuts after Thursday's ECB meeting.
Yet short of dramatic change to either the central bank's mandate or inflation forecasts, few are holding their breath.
At best, ING economist Carsten Brzeski reckons the euro jump "put its foot into an almost closed door towards a rate cut."
In the meantime, the threat of extreme appreciation returns us to the one-size-fits-all conundrum at the heart of the euro blowout over the past three years.
For example, Morgan Stanley's estimate of euro/dollar 'fair value' - gleaned from relative inflation, growth, exports and labour costs - is $1.33 and only just below current levels.
But that masks huge gaps between 'fair value' assumptions for each euro member - stretching from $1.53 for Germany to $1.26 for Spain, $1.19 for Italy and as low as $1.07 for Greece.
And it highlights the daunting task facing the weakest euro members absorbing an exchange rate squeeze after years of back-breaking wage and fiscal adjustments to recoup competitiveness.
Standard & Poors analyst Frank Gill said Spain, Portugal and Ireland have all made 'rapid progress' in rebalancing economies via rising exports and to countries outside the zone. He expects all three to return to current account surplus in 2013 and said that will hasten a return to growth well ahead of forecast.
But all this was achieved by the sort of internal devaluations necessary without local currencies - namely big drops in unit labour costs driven by high unemployment and government spending cuts. Since 2008, for example, unit labour costs have dropped 15 percent in Ireland and 6 percent in Spain.
If a euro surge over $1.40 now stifles or reverses those gains - renewing pressure on exports, jobs and wages in the process- there may be little political leeway for another push.
For some on the front line, it makes no sense to lose this war without a fight.
"The currency war is already going on and Europe is left watching ships pass by, doing nothing" said Filipe Garcia, head of Informacao de Mercados Financeiros economic consultants in Porto. "I am not an interventionist but when others are doing it it's not a free market anymore."
(Additional reporting by Daniel Alvarenga in Lisbon; Editing by Ron Askew)