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Saturday, 11 October 2014

Weak Euro = Good US + Europe

00:24 Posted by cheez No comments

Recently, a lot of analysts and economies are saying that a rising dollar and a near recession Europe is going to dampen US economy and stock market growth. What is even worse as mentioned by those economist, is that Europe will be exporting their inflation to the US, which is going to make the bad situation worse. Today I am going to explain why I think it is not as bad as it sounds.

The economist are saying that a weaker Europe will result in the following problems:
  1. Euro will fall against USD, making US products more expensive to export to Europe
  2. US exports to Europe will fall, causing its Export market and hence the economic growth (GDP) to slow
  3. Because European products will be cheaper in the US due to a weak Euro, it would cause inflation in US to possibly become deflation, which would cause the US economy more problems
However, I think that the negative part is over-rated. A weaker Euro against the USD is actually beneficial to both countries - Europe & US
  1. 70% of the US economy is consumption. A weaker Euro would increase the demand for European products. While 'Imports' will rise, but 'Consumption' will rise as well, which sort of neutralizes the effect a larger import has on the GDP. After all, what is imported has to be consumed.
  2. Secondly, US is not a major export country, 'Exports' make up 14% of US GDP as of 2012 and Europe represent slightly more than 20% of it. Assuming a 20% dip in export to Europe, the impact on US economy is 0.56%, which is pretty small. (https://www.esa.doc.gov/sites/default/files/blog/documents/exports_year_in_review_2012_0207_rnr_v2.pdf)
  3. It is not deflation we should be worry about but inflation. Importing deflation from Europe leads to lower US consumer prices and hence lower inflation. This encourages the Fed to maintain its low interest rates slightly longer and for the bull market to last longer.
My take is: If you are invested in US, love the weaker Euro, Europe because it encourages low inflation and longer low interest rates. If you are invested in Europe, a lower Euro will make European goods more attractive overseas, boost exports and improve their economy.

We need to understand the key driver of their economies to know how they grow. US grow by consumption while Europe grow by Exports.
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