Fall of the euro against the dollar: why this is bad news for the French economy

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Clouds are gathering over the European economy. Following a slowdown in the Purchasing Managers’ Indexes (PMI) in August, the European currency continued to trade below parity with the dollar on Thursday, August 25. At its lowest point in 20 years, the euro rose briefly against the dollar on Tuesday night and Wednesday, without really regaining strength. In June 2021, the euro was at its highest point against the dollar, in the context of the strong post-pandemic rally, but since then the single currency has continued to slide.

The euro hits its lowest level in 20 years against the dollar

The outbreak of war in Ukraine exactly six months ago precipitated this drop in the euro as inflation continues to rise across Europe. “The euro depreciated sharply against the dollar, but remained firm against other currencies. This is not general depreciation. said ING Charlotte de Montpellier economist in charge of the euro zone when asked The galery. “The aggressive monetary policy of the Federal Reserve (Fed) explains part of this depreciation. The energy shock particularly affects Europe. There is a capital flight to the United States. All these elements have important consequences in the euro zone”, she added. In fact, it should be remembered that the dollar appreciated strongly at the same time. Although disputed, the hegemony of the greenback remains in much of the world’s exchanges.

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Bad business for importing companies

This weakness of the euro has disastrous repercussions on the French economy. On the foreign trade front, the depreciation of the euro is clearly bad news for importing companies. In fact, many imported goods and services in France are denominated in dollars. This is the case, for example, in the field of energy. Much of the imports of oil, gas and raw materials are invoiced in American currency in France and in the euro zone.

in the eurozone, nearly 50% of imported goods are denominated in dollars. This makes the cost of imports for households and businesses higher. Companies that have to import sometimes find themselves in a difficult, even dramatic, situation. These costs are passed on to consumer prices. Inflation is likely to remain high in the coming months », the economist anticipates.

But a boon to competitiveness

On the other hand, the fall of the euro can also be a boon for French competitiveness. Many industries can thus export their products at a lower cost. This is the case, for example, of the aeronautical, automotive, luxury and even agri-food sectors. In tourism, sales of services abroad skyrocketed in parallel with the lifting of sanitary restriction measures. As a result, a flood of American tourists arrived in France this summer after the catastrophic two years of the pandemic. “The result of this export depreciation is still difficult to measure, but the competitiveness gains will probably not compensate for the increase in energy-related costs,” relativizes Charlotte of Montpellier.

“On paper, the depreciation of the euro is more favorable for exports, but this will depend on the composition of production costs. In Europe, labor costs have not skyrocketed compared to the United States. The big problem right now for companies is the cost of energy. The gains in competitiveness linked to the fall of the euro are not offset by the rise in energy costs”the economist continues.

The purchasing power of households weighed down

On the household side, the depreciation of the euro weighs on purchasing power. In fact, a large part of the products imported and consumed by households in the euro zone are initially invoiced in dollars. Imported products lose competitiveness and are therefore more expensive. This helps drive the consumer price index to record highs. In France, inflation reached 6.1% in July according to INSEE. And no improvements are expected before the start of 2023, according to Bercy. “The inflationary shock is very important. The peak of inflation is probably still ahead. The rise in the harmonized consumer price index could reach 10% in the fall in the euro zone, Hélène Baudchon, an economist at BNP-Paribas, recently said The galery.

Even if the government approved a purchasing power package this summer to limit this increase, the deindexation of wages (apart from the minimum wage) has caused a drop in real income since the beginning of the year. Result, the standard of living of the French declines, undermined by the explosion of energy bills. Many households are forced to tighten their belts.

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Dependence on fossil fuels

In terms of energy, this depreciation of the euro has also highlighted the heavy dependence of the European economy on fossil fuels. In Germany, the bad signs have been piling up since the war in Ukraine. German industry is trapped in a heavy dependence on Russian gas. A gas cut in the coming weeks would plunge the eurozone’s largest economy into deep trouble.

In more general terms, the entire economy of the Old Continent could be destabilized by such a decision next winter. Many economists fear the cascading effects on industry and services as the euro zone emerges from a two-and-a-half-year pandemic. This sword of Damocles will force the States to accelerate their energy transition if they do not want to continue suffering the effects of this strong dependency.

Limited room for maneuver for the ECB

At the end of July, the European Central Bank (ECB) announced a tightening of its monetary policy by announcing a rate hike of 50 basis points. The ECB was more aggressive than expected in July in trying to limit this weakness in the euro. “This announcement took place before the gas price increase. This did not allow to limit a weakening of the euro”, Charlotte of Montpellier underlines.

In September, the Frankfurt institution could redraw a rise of 50 basis points, but the room for maneuver is limited. In fact, more and more economists speak of the risk of a recession in Europe in the coming months. A very aggressive normalization of monetary policy could plunge the European economy into a thick fog.

Economy shrinks in France, recession looms in Europe