Rafael Pampillón and Cristina Mª de Haro. IE Business School and Universidad San Pablo (CEU)
20 January 2015
The falling value of the euro is strengthening exports and attracting foreign investment. If it brings real economic recovery, the result will be a virtuous circle of growth.
On 4th January 2014, the euro stood at $1.39 and it has been falling ever since. Yesterday, it stood at less than $1.18, a drop of over 15%, which has seen it fall to its lowest level in nine years. Spain and other countries in the eurozone have been benefiting from this sharp depreciation in 2014 and at the start of 2015. The reasons for this depreciation are many:
Will the euro continue to depreciate?
Making predictions about financial markets is very complicated. However, some economists argue that the euro is close to hitting rock bottom. One theory is that depreciation such as we are currently witnessing, boosts exports in the eurozone. So, what is the right kind of interest rate? Six months ago, the Big Mac Index informed us that the interest rate, which would see the price of hamburgers on either side of the Atlantic draw level, would stand at 1.2 dollars to the euro, a figure not dissimilar to those provided by far more sophisticated econometric models or the OECD. This would mean that, as things stand, the euro is devalued. We will have to wait until the end of this month, when The Economist publishes new data, to find out just how far the euro has depreciated in comparison with the dollar according to the Big Mac Index.
Recovery in Europe
We would like to reiterate, therefore, that the weakness of the euro may benefit exports in Europe (which is becoming more competitive), and could create opportunities for European growth. If the eurozone begins to recover, it could start to attract foreign investors once more, and they in turn would require more euros, which could halt the currency's decline.
For several decades now, consumption has been, and continues to be, the driving force behind the US economy, while the driving force behind the eurozone economy is, if anything, exports. However, in order for this driving force to function, it is essential that the rest of the world responds by purchasing a greater quantity of goods and services from Europe, as these are becoming very cheap. Consequently, tourists from other parts of the world are visiting Paris, Italy, Greece, and the beaches of Spain in greater numbers. Depreciation is also having a positive effect on the Spanish real estate market, which sees revenue increase when the euro is devalued, as many foreigners wish to purchase houses and other assets in the eurozone, on account of their reduced cost in dollars. Furthermore, we will see other types of foreign investment in the eurozone, since foreigners will be purchasing European assets (factories, properties, bonds, and shares), given that they are all going at sale price. Should this be the case, then it seems likely that there will be a recovery during the course of 2015, which would also encourage significant growth in the world economy.
Fortunately, the Spanish economy does not have as many problems as that of France or Italy or, of course, Greece. We are also some way off from the sharp depreciation of the ruble in Russia, which is having a negative effect on the German economy. This week, we have seen evidence of economic recovery in Spain, with the publication of figures by the Department of Social Security relating to official unemployment and social security registration figures. In 2014, an additional 417,574 workers registered, the highest number of registrations since 2007.
More employment has meant that consumption, amongst Spaniards, is on the increase, which has, in turn, seen a rise in imports. However, in real terms, import figures continue to rise faster than those for exports, the drop in oil prices significantly affecting their value in euros. This has had a positive effect on the balance of payments and helps to explain why, in October, the country recorded a positive, if modest, current account surplus of €311 million.
So, with things as they are, the ECB will continue to adopt an expansive monetary policy or quantitative easing that will see the euro continue to depreciate, which may help economic growth and boost employment. This could also prompt a rise in prices, which would chase away the specter of deflation. The appreciation of the dollar (in anticipation of a moderate increase in interest rates in the US) and the falling price of oil (50 dollars per barrel) clearly favor economic growth worldwide, and particularly in Europe and Asia. Nonetheless, during the course of 2015, we can expect the problems faced by Russia and other oil-producing countries to introduce an element of instability into the currency market. In Spain, the economy continues to grow, thanks to the rise in employment, consumption, and investment. October's increased current account surplus is proof that growth can continue without the need for foreign trade deficit and, consequently, without borrowing from the rest of the world.