The French and German balance of trade has been following two opposite trends: France’s trade deficit has revealed its vulnerability to any appreciation in the Euro exchange rate, as opposed to Germany, whose trade surplus shows its resistance to a strong Euro. The everlasting Franco-German debate on the best exchange rate between currencies takes on a whole new meaning at a time when German exports of agricultural and agri-food commodities have reached a new high in 2012, outranking French exports.
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by Thierry Pouch, Head of Economic Studies at the Permanent Assemblies of Chambers of Agriculture (APCA), and who believes that if the Euro exchange rate goes on rising, as it has been since the second semester of 2012, this could lead to increased tension, and in the long term could jeopardize Eurozone exports.
The impact of the Euro exchange rate on global economic competition, and more precisely competition in the market for agricultural commodities, has strongly increased in the last few years due to the rising debts of both European farmers and member states, and as a result of the increased liberalization and financialization of agricultural markets.
The exchange rate is an essential variable for agricultural competitiveness, but beyond this, exchange rates and monetary policies also provide indirect support for agriculture. A point that is confirmed by the results of the SGPA indicator (Global Support for Agricultural Production), implemented by Momagri in 2011.
momagri Editorial Board
As the Euro reaches a new high against the Dollar, a trend set in motion during the second semester of 2012, an old debate has re-emerged between the two major economic powers, France and Germany. The resurgence of this debate occurs at a time when the French and German balance of trade has never before been so strongly polarized.
The German trade surplus in 2012 shows a good resistance to a strong euro, whereas the French trade deficit reveals a vulnerability to any appreciation in the Euro exchange rate.
From July 2012 to January 2013, the Euro exchange rate rose 25% against the Yen, 10% against the Dollar, 6% against the Sterling, and 3% against the Swiss Franc. This progression is rather spectacular considering the fact that the actual existence of the European currency was threatened only eight months ago, amid fears of the explosive situation in the Eurozone. However, this exchange rate is nowhere near its 2008 mid-crisis record high, when the Euro to Dollar exchange rate reached € 1 = $ 1.55.
In this context one should try and determine the factors that have contributed to raising the exchange rate of the Euro, and whether this trend is set to continue in the long term. This high exchange rate has fuelled an intense debate between France and Germany, an old debate that takes on a whole new meaning in the current economic context, where the French and German balance of trade has never before been so strongly polarized. Let us try and understand why.
Has the Euro become a safe investment?
Only eight months ago, the Euro was considered a moribund currency. Its actual existence was threatened as countries such as Greece, Spain, Portugal, Ireland and even Italy were faced with the sovereign debt crisis, and the Eurozone seemed unable to coordinate a clear political strategy. This situation persisted until Mario DRAGHI, the president of the European Central Bank, intervened that summer to make it clear that the euro was ‘irreversible’.
Matching action to words, he unveiled a European bond-buying plan to buy sovereign debts. The uncertainty as to the survival of the Euro ended almost overnight as financial operators considered that Mario Draghi had the situation under control. This put a stop to the slow downslide of the Euro, initiated in 2011. From September 2012 onwards, the exchange rate of the Euro progressively rose against the dollar.
This trend stems from the decisions that were taken last year to help European countries directly threatened by the crisis. The European Stability Mechanism (ESM), the plan to buy Eurozone sovereign debts (Outright Monetary Transactions) and the project for the creation of a banking union have all helped counter the risk aversion of financial investors. The return of investments in the Eurozone is a strong sign that the perceived risk of an explosion of the Eurozone has faded.
Nevertheless, other factors are at work which explain the rising value of the Euro, for instance the American monetary policy, a highly accommodating policy that involves the US Federal Reserve (FED) buying 85 billion dollars worth of bonds every month. As a result, the US monetary base has reached a new high, raising concerns about possible inflation tensions and the potential impact of the somewhat limited cut in public deficits. Moreover, the FED’s interest rate remains close to zero. Financial investors share the same concerns about the United-Kingdom.
In the same way, monetary expansion is the option chosen by the Bank of Japan, which after the election of the new government, intends engaging in a “competitive devaluation” of the yen in order to boost exports and domestic growth, which have been stagnating for several years. As for the Swiss Monetary Authority, it has adopted measures aimed at preventing the appreciation of the Swiss currency which might block the country’s exports.
As most other currencies are depreciated, and the interest rate of the FED is close to zero, financial asset holders are looking for attractive investment opportunities and have found these in the Eurozone.
In addition to Mario DRAGHI’s statement, the ECB Monetary Policy Committee has kept interest rates unchanged for several months, which means that these rates are higher than the FED interest rate. The Euro is therefore a sought after currency which explains its high exchange rate compared to other currencies. If this differential in interest rates persists over time, this would lead to the long term appreciation of the Euro.
Threats and resurgence of an old debate
The appreciation of the Euro carries two major threats. The first threat lies in its impact on Eurozone exports. And in this case, one must distinguish between Northern European countries, such as Germany, which have a trade surplus, and Southern European countries that have accumulated a high deficit. Southern European countries such as Spain, Italy, Portugal and Greece and possibly even France, clearly need a Euro with a lower exchange rate in order to boost their exports and progressively reduce their external deficit. If the Euro goes on rising against the Dollar, the Euro to Dollar exchange rate could reach € 1 = $ 1.5, and possibly raise even higher, which would be a real problem for Southern European countries.
In the meantime, Germany’s trade surplus goes on rising. In spite of the high Euro exchange rate, Germany’s trade surplus has reached +188 billion € (up from 158.7 in 2011), while France has been struggling to cut its deficit by 3 billion €, down from – 70 to – 67 billion € in a year. Estimates show that Germany would go on exporting even if the Euro exchange rate was as high as $ 1.8 = € 1. Proving once again that Germany’s competitiveness is not linked to the price of the goods it exports. Nevertheless, it remains that the high Euro exchange rate has rekindled the old debate on the best exchange rate between currencies. A debate opposing, nihil novi sub sole (nothing new under the sun), France and Germany.
This issue has become acute as German exports of agricultural and agri-food commodities have reached a new high in 2012, achieving approx. 64 billion euros, in spite of the high Euro exchange rate, outranking French exports, which only achieved 58 billion euros. Nevertheless the positive trade balance of + 11.6 billion euros for French exports of agri-food commodities, means that France remains the leading European country in the market for agricultural and agri-food commodities.
The second threat lies in the reaction of the ECB. Many countries have ‘adjusted’ their exchange rates over the last few months (Brazilian, Argentinian, Indian and Japanese currencies have lost approx. 11-15% against the Dollar), raising fears of a potential currency war. As the Eurozone crisis is far from being over, the ECB might be tempted to intervene in order to help relieve European economies that are suffering from the high exchange rate of the Euro. Indeed, the ECB could well decide to cut its interest rates, even if this goes against the wish of those supporting the German monetary orthodoxy. After the monthly meeting of the Monetary Policy Committee on 7 February 2013, Mario DRAGHI, speaking in the name of the ECB, declared that the Committee was keeping a close watch on the Euro exchange rate, and that in the long term this aspect might be integrated in its perception of the economic risks weighing on the Eurozone. It certainly looks as if the Eurozone, which has yet to overcome the economic crisis, may also have to deal with a governance crisis.
Lastly there is also Italy to consider, Eurozone's third biggest economy, and the question of whether its political and economic evolution will have an impact on the Euro exchange rate.