In memory of Dr. Andreas Höfert

The euro is too strong? Just restart the crisis!

I cannot hear it anymore – currency wars here, currency wars there. “My currency is too strong!” “No, mine is!” “You’re not playing fair!” “No, you’re the one who isn’t!” Everyone, at least every politician, wants a weaker currency, thinks it will cure every economic ill and doesn’t seem to understand that it is logically impossible for every country to devalue.

In this context, the G7 made the sibylline statement that “we reaffirm our longstanding commitment to market determined exchange rates…We reaffirm that our fiscal and monetary policies have been and will remain oriented towards meeting our respective domestic objectives using domestic instruments, and that we will not target exchange rates. We are agreed that excessive volatility and disorderly movements in exchange rates can have adverse implications for economic and financial stability.” Now it will be the turn of the G20 to tackle the currency issue at its forthcoming meeting. The consensus of economists is that it will come to a similar “neither fish nor fowl” agreement as the G7.

I mentioned a couple of weeks ago that I don’t understand even the basic concept of a currency war – i.e. the race to the bottom of currencies under the assumption that the decline in value will boost exports and ultimately growth. It represents a “café de commerce” type of economics to me that is based on a flawed theory and has been proven wrong again and again.

One of the loudest whiners in today’s currency wars has been France, whose government thinks that the recent euro appreciation is damaging its economy. It went so far as to state that its 2013 GDP growth forecast, until recently roughly 1% (which is much too optimistic when compared with the consensus, which calls actually for GDP contraction), would have to be revised, in fact reduced by half due just to the appreciation of the euro against the dollar and yen. So let’s make a back-of-the-envelope calculation to see whether this argument holds water. French exports, of which the bulk goes to the Eurozone, represent at maximum 30% of French GDP. Exports outside the Eurozone constitute approximatively 30% of overall exports or, if you prefer, at most 9% of GDP. For growth to be shaved by half a percentage point and for that shaving to be attributable to the euro’s recent rise means roughly that French exports outside the Eurozone went from 9% to 8.5% of GDP within the last couple of months – i.e. that they have fallen by 6% since the euro appreciation started.

If this were true it would in turn mean that French exports are highly price sensitive and hence French products inferior to those of their international competitors. And suddenly, just by positing that the euro is overvalued, the thorny issue of French competitiveness returns through the backdoor.

Several studies have highlighted competitive discrepancies within the Eurozone. For France to be internationally competitive the euro should trade below 1.25 against the dollar. Germany on the other hand could remain competitive even with a euro above 1.50. This difference pinpoints France’s main problem: not the value of the euro vs. the dollar so much as its lack of competitiveness in relation to Germany. Addressing this problem would necessitate discussing reforms, however, which the French government is currently unwilling, or more likely unable, to do.

That said, I wouldn’t be too anxious about the value of the euro if I were the French president. Contrary to what he has proclaimed repeatedly in recent weeks, the euro crisis is not over yet. Any major tension among Eurozone members will be interpreted as a sign to sell the euro. By trying to talk the currency down, to the ire of a German government that has a different view of the matter, France might in the end achieve its goal. But I doubt that it will help French exporters much.