Friday, July 9, 2010

In Praise of a Weak Euro

The euro has been depreciating by about 20 percent against the dollar (and thus against the yuan) between its peak of last November, at slightly over 1.5 dollars, to its recent trough of 1.2 dollars in May.

European officials, including Mr. Trichet now rejoice about the new “resilience” of the European, and especially German, economy. German exports rose by 9.2 percent and industrial production by 2.6 in May. Good enough. But any first year student of economics could ascribe that result not to some hypothetical underlying dynamics in the German economy, but to the substantial currency depreciation driving down the euro to some more reasonable level, after years of blatant and unreasonable overvaluation.

Now just imagine what could happen with a further depreciation bringing the euro in line with its purchasing power parity value, at say one dollar for one euro. This would mean another 20 percent devaluation and a renewed export surge for Germany (and indirectly, in part at least, for the other eurozone countries).

Would business people be daring enough to maintain their usual complaint that exchange rates changes are catastrophic for their firms? And wouldn’t that make a strong case for reexamining the “permanently fixed exchange rate system” included in the euro?

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