The Weakness of the Euro: Is it Really a Mystery?
AbstractThis chapter addresses the weakness of the euro against the US dollar and the yen since its launch in 1999. The report stresses the effects on the euro of a dramatic decline in the demand for base money which probably reflected a flight of black money from within the euro countries as well as of deutschmarks returning from Eastern Europe and other parts of the world. As the ECB absorbed the fall in the demand for base money at given interest rates by changing the composition of its broad money aggregate M3, without changing its size, the effect on the exchange rate was very similar to a sterilised intervention of the same size. Measured against the trend, the decline in the demand for base money was in the order of q90 billion over the last few years until October 2001, enough to fully explain the euro weakness in quantitative terms. Apart from these changes in the demand for currency, macroeconomic factors have also contributed to the weakness of the euro, which may be seen as a reflection of dollar strength in the late 1990s. Dollar appreciation was initially driven by high consumption and investment demand due to expectations of a strong US advantage in growth and productivity. After doubts about the persistence of this advantage towards the end of 2000, the euro stopped depreciating, but remained weak, perhaps reflecting market pessimism about Europe’s ability to sustain its own growth independently of the United States. It was precisely in this period that the movements in currency demand mentioned above may have become stronger.
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Bibliographic InfoArticle provided by CESifo Group Munich in its journal EEAG Report on the European Economy.
Volume (Year): (2002)
Issue (Month): (04)
Other versions of this item:
- Giancarlo Corsetti & John Flemming & Seppo Honkapohja & Willi Leibfritz & Gilles Saint-Paul & Hans-Werner Sinn & Xavier Vives, 2002. "The Weakness of the Euro: Is it Really a Mystery?," CESifo Forum, Ifo Institute for Economic Research at the University of Munich, vol. 2002(CESIFOFOR), pages 27-42, 04.
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