In memory of Dr. Andreas Höfert

A lower euro? What for?

| Tags: Andreas Höfert

A couple of weeks ago, using the example of former Federal Reserve chairmen Alan Greenspan and Ben Bernanke denying (or at least mitigating) any causality between very loose monetary policy and the financial crisis, I discussed what is called “self-attribution bias” in behavioral finance.

Humans have a tendency to attribute favorable outcomes to their own abilities and skills, while blaming unfavorable ones on external factors or even just a lack of luck. Politicians are particularly prone to this. How many times have we heard, in the EU, national leaders congratulating themselves for their wise policies that seemingly led to positive economic developments, while criticizing external factors whenever the economy wasn’t doing so great? The EU and Brussels’ bureaucrats have always been a favorite scapegoat. So, no one should really wonder that European voters would take this easy finger-pointing by their leaders at face value, and start expressing anti-European sentiments at the polls.

Another easy external factor to blame is the currency. “The lack of growth in my country is due to the euro’s overvaluation, which is hurting exporters” is a mantra that has been used by many European politicians. The latest example of it came from French Industry Minister Arnaud Montebourg a couple of months ago, who said: “We have to devaluate the euro. We (France) had a trade deficit of over 61 billion euros in 2013. The currency is penalizing our industry,” yada, yada, yada. You know, the usual story.

However, once we start to look beyond this argument, what remains are a few questions. Is the euro really as overvalued as claimed? Does it really harm European exporters? Or is it just the usual self-attribution bias?

Concerning overvaluation, according to my esteemed colleague Tom Flury, head of Foreign Exchange at the Chief Investment Office, even when the euro was flirting with 1.40 against the US dollar in February and then again in early May, it stood only 4% above its fair value based on purchasing power parity, which is significantly less than one standard deviation from it.

However, it was 40% above fair value against the Japanese yen and also far away from its fair value against the Chinese yuan (roughly 50% from fair value). So in a sense, at least against some Asian competitors, the story of an overvalued euro might be true.

Then again, looking at trade balances, what do we see? According to Eurostat, the Eurozone trade balance (goods and services) stood at a surplus of over EUR 330bn in 2013, making up 3.5% of GDP. France, with its EUR 40bn trade deficit (roughly 2% of GDP), was a striking exception in the Eurozone. Indeed, the only other Eurozone country with a trade deficit in 2013 was Greece (EUR 4.8bn, 2.6% of GDP).

It is true that Germany’s EUR 168bn alone contributed over 50% of the European trade surplus. But Italy (EUR 39bn surplus) and Spain (EUR 25bn surplus) also did their part. Even Portugal, with almost 2 billion euros in surplus (1% of GDP), contributed to the Eurozone’s positive result. So, clearly, the overvalued euro doesn’t seem to be a Eurozone problem, but a French one.

Digging deeper into the matter, we discover that according to the French foreign trade ministry EUR 41bn of France’s trade deficit in goods were with its partners within the Eurozone. Devaluating the euro will not really help here.

Finally, it is worth noting that among the large economies of the Eurozone, foreign trade is the least important for France, whose exports in 2013 only accounted for 27% of its GDP. In comparison, the figures were 30% for Italy, 34% for Spain, 51% for Germany, and a whopping 88% for the Netherlands.

This little analysis shows that all the noise that some politicians make about the euro’s strength and how it harms the Eurozone economy is indeed a case of self-attribution bias. A weaker euro will not really solve the Eurozone’s problems, and I am not even convinced that it will solve France’s either.