Does a weak euro strengthen the (export) economy?
The single currency started with the highest standards. It should become the main reserve currency of the US dollar. In fact, in 2008 the euro rose to around $ 1.60. However, it is currently at its lowest level in 5 years and reaching parity is not out of the question. Some politicians (monetary) do not mind at all. They even believe that a weak euro is economically strong.
Interest rate parity theory: weak interest rates = weak currency
What changes exchange rates? The interest rate parity theory says that money flows to those countries that offer the highest interest rates, which in turn raises their exchange rates. There seems to be something to it: higher bond yields in the US compared to Germany have clearly weakened the euro against the US dollar since 2014.
Conversely, it is also becoming a shoe: if the ECB were to take seriously the task of price stability inherited from the Bundesbank, real inflation of interest rate hikes would soon hit the euro area. The euro should really fly.
Yes, the ECB will initiate a key interest rate return in July. No, no fierce fight against inflation is to be expected. The big ugly inflation pimple is not consistently eliminated by interest rate increases. It is only cosmetically covered with makeup.
Better more inflation than less exports
In fact, a careful observer has the impression of a “compromise”: the fight against inflation on the side of interest rates may weaken to weaken the euro. As a stimulus, it aims to adapt the European economy and, above all, its strong foreign trade sectors.
But is this a recipe for success? Countries such as Greece, Italy, Spain and Portugal continued to devalue in the second half of the last century compared to a hard currency country like Germany. And have they developed into export-driven temples of growth? Or maybe Germany with its legendary, strong D-Mark has become a poor house of foreign trade?
It was the other way around. Germany has taken up the “curse” of a strong currency. We achieved this task with flying colors thanks to industrial innovation, continuous improvements in productivity, and cheap imports of raw materials. Our consistent operating principle has made us a world export champion.
On the other hand, other European countries have relied only on conveniently equalizing productivity through devaluation. The punishment was inevitable. First, they imported inflation. At the same time, currency dumping decreased the incentives of politicians to work on improving the location. Why go to school when well-meaning teachers turn a blind eye?
The euro has held back the cure for devaluation, but the ECB provides an alternative craze
After the introduction of the euro, the devaluation of the drachma, lira, escudo or franc was no longer possible. Consequently, the neglect of the efficiency principle could no longer be compensated for. Inaction is the beginning of all vices. It happened as it had to: structural deficits and debt crises melted the growth potential like the ice of summer on the Italian Mediterranean coast.
How to solve the problem? The ECB has become the ultimate lifesaver. The earlier joys of devaluation it made up for with the cheapest and biggest cash gifts of all time. Initially, this cardinal sin of stability seemed less serious, as long-standing low inflation made an expansionary monetary policy feel appropriate.
Nevertheless, this monetary policy further nurtured economic inertia. And unfortunately, the elimination of the possibility of devaluation and the associated weakening of the competitive pressure in the Euroclub seriously secularized the principle of sacred efficiency also in our country. But what’s the point if Germany is king in Europe but we are facing a palace and industrial revolution in the face of ever increasing non-European industrial competition?
And instead of returning to the path of economic virtue, in the euro area, it is demanding more and more state economy to prevent the worst in the economy. Who will pay for it? That’s right, the ECB as a willing and indulgent conquest of depressed politics.
As a result, it will continue to refrain from really sharp and consistent interest rate hikes, even when they are urgently needed to fight inflation. The result is the continued weakness of the currency, which further fuels the massive price increases caused by war and raw materials. Firms are robbed of profit margins and consumers are robbed of purchasing power and prosperity. Economic growth is even shrinking.
Switzerland shows that there is another way. A stable Swiss Franc keeps imported inflation low. Overall, despite the strength of the currency, the Confederates consistently top the competitiveness charts. Anyone doing their homework on the principle of efficiency can also withstand strong currency. As a reminder: this is what Germany once did.
No, a weak euro is not a silver bullet for economic success. It is a dead end that leads to an economic dead end. So is it still surprising that the weight of the euro in the IMF’s currency basket has decreased more than ever before?
Please don’t lie to ourselves: the weakness of the euro is not the strength of the dollar. The euro is weak due to its own inability. No pain, no gain.