EU Economy
Weak euro unlikely to have significant impact on Euro Area growth
By Michael Hennigan, Finfacts founder and editor
Jul 29, 2015 - 11:29 AM

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The euro is at its weakest against sterling since late 2007 while the single currency is close to a 12-year low against the US dollar. However, despite the claims of some policy makers that a resultant jump in exports from a currency devaluation will boost growth, the impact is likely to be marginal at best.

The massive bond-buying program since Shinzo Abe became Japan's prime minister in December 2012 has also resulted in the yen falling to a 12-year low versus the dollar. There has been no exports surge.

The US dollar traded at ¥123 today (July 29) — the rate was ¥87 at the end of December 2012.

By December 2014, Japan posted its 30th straight monthly trade deficit and in the first half of 2015, with the big assist of the fall in the price of crude oil, there was one surplus month — March. The goods trade deficit in the January to June period shrank 77.4% from a year earlier to ¥1.73tn ($13.9bn) and the value of exports rose 7.9% from a year earlier to ¥37.81tn, while imports dropped 7.4% to ¥39.53tn.

Sterling fell by about a trade-weighted 25% from 2007; it may have saved some jobs during the recession but it had no discernible impact. The UK has posted a trade deficit every year from 1999.

Emerging market currencies have fallen sharply in recent times against the US dollar and the Malaysian ringgit is at a 17-year low — during the Asian financial crisis of 1998.

Stephanie Flanders, chief market strategist for Europe, JPMorgan Asset Management, writes today in the Financial Times: "Net trade made a negative contribution to Eurozone growth in the first three months of 2015 and trade’s contribution is likely to be barely positive for the rest of 2015.

For all the talk about the euro, the single most encouraging aspect of Europe’s recovery since the turn of the year has been the strength of domestic demand. But private capital investment in the Eurozone is still flat and has been even weaker than in the US since 2010."

Euro Area countries mainly trade within the currency zone and the average of export and import goods traded outside is less than one-fifth of the economy.

Much of the trade with the rest of the world is via large multinational companies and producers of high quality goods do not have the incentive to slash prices.

In research led by Mary Amiti, a senior economist at the New York Fed, the economists highlight that their research shows that "the incomplete pass-through is the most pronounced for exporters with large import shares — each additional 10 percentage points of imports in total variable costs reduces exchange rate pass-through by over 6 percentage points. We also show that large exporters are import-intensive, have high foreign market shares, set high markups, and actively move them in response to changes in their marginal costs. Thus, the prices of the largest firms, which account for a disproportionate share of trade, are insulated from exchange rate movements both through the hedging effect of imported inputs and through active offsetting markup adjustment in response to cost shocks."

Philippe Martin, a professor of economics at Sciences Po in Paris, together with other economists, found in a study of French exporters that: "...only high performers partially price-to-market and partially absorb exchange rate movements in their mark-ups. On export volumes (again destination-specific), the reverse is true; the export volumes of the best performers do not react to exchange rate movements, whereas poor performers increase their export volumes by around 6% in response to a 10% depreciation."

Natalie Chen, a professor of economics at Warwick University, and Luciana Juvenal from the International Monetary Fund, found that companies producing high-quality goods are also averse to cut export prices in the wake of devaluation. “If exchange-rate movements are more strongly absorbed into the export prices of higher quality fluctuations have a less than proportional impact on aggregate trade prices and volumes,” they wrote in 2014.

Irish indigenous food exporters who ship more than 40% of their output to the UK market should benefit from the strength of sterling versus the euro but selling via a big supermarket channel is not comparable with selling commodities such as soyabeans to China at a world market price at the start of a boom, as Argentina did after its default in 2001/2002. See here:

Is Euro Area Ireland's top trading partner?: EU28 is overwhelmingly UK's

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