The scale of the fall in the value of the euro as the European Central Bank first signalled and then commenced its quantitative easing (QE) programme has been striking. The euro has fallen close to not far above parity with the US dollar.
Together with the dramatic fall in oil prices, this will deliver a significant boost to much of the euro zone economy. Already confidence indicators are improving and while risks lie ahead, fears of the euro zone slipping into a dangerous period of deflation have now eased considerably.
Of course QE is an emergency measure and these do not come without risks. The methods through which QE are intended to work are not straightforward and unwinding it all when conditions improve may be challenging. It will be interesting to watch the US in the months ahead, as the QE stimulus is gradually withdrawn. However, given the trend in prices and economic activity, the European Central Bank (ECB) had no option but to act.
Currency devaluations also have a beggar-thy-neighbour aspect to them. European exporters are boosted as the euro falls, but those selling into Europe find life harder. Big currency swings can also be destabilising to businesses and economic activity. Europe needed a cheaper euro – it is just that when a process such as QE starts, it it impossible to calibrate the market response. Dealers may bet on whether the euro will now breach parity wit the US dollar, but experience shows that accurately forecasting currency trends is a dangerous task.
For Ireland, the fall in the euro is a boost for exporters selling to non-euro zone markets, particularly the US and UK. It is also a shot-in-the-arm for the tourist sector, which has been a job creator over the last couple of years. It is important, however, to recognise that there are losers, too. Those who import goods from non euro zone countries will be hit and the rate of inflation should increase. At the moment inflation is very low – too low, in fact – but a sharp bounce back is possible, particularly if fuel costs stabilise.
The irony of QE is that, if it works, interest rates and, eventually, the euro should start to rise as economic growth and expectations for the future rate of inflation pick up. The Government, as a big borrower, and Irish exporters should, of course , take advantage of low interest rates and a weak euro for as long as possible. However they should also be mindful that, at some stage, trends will reverse . In particular the low rates at which governments can now borrow are unlikely to be sustained in the long term.
As for the euro, for the moment most people are selling and the currency is on a weakening trend . Currencies are rarely a one way bet, but a weaker euro is, on balance, welcome, as the euro zone tries to emerge back to a period of growth.