Wednesday, February 8, 2012

Outlook for Euro

A look at some of the challenges facing the Eurozone and why the Euro is likely to remain weak over coming months.


The Euro has been weak ever since the debt crisis began at the start of 2010.

Challenges for the Euro

1. Current Account Imbalances

The single currency has created economic imbalances in the Eurozone.
  • Germany has a large current account surplus (almost 6%) - suggesting German exports are undervalued.
  • By contrast, Greece has a current account deficit of 11%.
  • Portugal has a current account deficit of over 7%.
  • In Q3, the UK had a deterioration in current account deficit to 4% of GDP (despite devaluation since 2009.
  • To restore competitiveness in Greece and Portugal without devaluation would require a prolonged period of deflation. This deflation would lead to lower growth and higher unemployment.

2. Government Debt


Greece and Ireland have a high budget deficit. But, it also shows that the problems of the Euro are more than debt. Portugal and Spain have high bond yields - despite a relatively low budget deficit. Portugal and Spain have a budget deficit 50% less than similar deficits in the UK and US. Yet, US and UK don't have rising bond yields.

3. Unemployment


Unemployment rates in the Eurozone present a real threat to social stability - especially since unemployment is more concentrated amongst young workers.

4. Low Economic Growth

Growth forecasts for the Eurozone have been downgraded. For southern Europe, there will be a double dip recession, making it harder to reduce debt to GDP ratios and increasing unemployment. Unfortunately, it is hard to see a strategy for growth. There will be no loosening of monetary policy. The exchange rate will remain overvalued for the uncompetitive south. And at the same time, they have to reduce spending to tackle budget deficits. Combined with a European wide slowdown, it will be a slow and limited recovery.


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