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Who benefits from euro depreciation in the euro zone?

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Abstract

In this paper, we try to assess the short-run and long-run effects of changes in the value of the euro on the trade balance of 12 original members of the euro zone to identify those who benefit from euro depreciation. After estimating a linear and a nonlinear trade balance model for each country, the results favor the nonlinear adjustment of the real euro and nonlinear models. We find that while seven members will benefit from a euro depreciation, Germany is the only country that will also benefit from a euro appreciation, perhaps due to an inelastic world demand for German goods. The results also support asymmetric effects of euro appreciation and euro depreciation in most countries in the zone, in the short run as well as in the long run.

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Notes

  1. The two review articles are: Bahmani-Oskooee and Ratha (2004) and Bahmani-Oskooee and Hegerty (2010).

  2. It should be indicated that a few other papers have followed different path in investigating the link between trade balance or trade flows and the exchange rate in Europe. For example, while Senhadji (1998) has estimated the import demand for many countries including euro members, di Mauro et al. (2008) has followed standard approach to assess the impact euro depreciation on exports volume, export prices, and firm profits of euro members. On the other hand, Belke and Gocke (2005), Belke et al. (2013, 2015), and Belke and Kronen (2016) have relied upon a non-linear model in which they introduce path-dependent play-hysteresis into a regression framework so that they can assess the hysteretic impact of real exchange rates on trade flows of different countries in the euro zone.

  3. The trade balance model (1) was also adopted by Bahmani-Oskooee and Fariditavana (2015), Nusair (2016), Arize et al. (2017) and Bahmani-Oskooee and Kanitpon (2017).

  4. Note that the ratio reflect the trade balance in real or nominal terms (Bahmani-Oskooee 1991).

  5. It should be mentioned that the estimate of b could be negative and that of c could be positive if economic growth is due to an increase in production of import substitute goods.

  6. Other advantages of defining the trade balance as a ratio is that the ratio is unit free and it could be considered the trade balance in real and nominal terms (Bahmani-Oskooee 1991).

  7. Note that n1 is the optimum number of lags imposed on ΔLnTBt−k. Then n2, n3, n4 follow the same definition related to associated variables.

  8. Since the critical values account for integrating properties of variables, there is no need for pre unit-root testing and variables could be a combination of I(0) and I(1). This is yet another advantage of this method.

  9. Intuitively, partial sum of positive (negative) changes is the same as cumulative sum of all changes where negative (positive) changes have been replaced by zeroes.

  10. For more on some other applications of these methods see Halicioglu (2007, 2008), Gogas and Pragidis (2015), Durmaz (2015), Baghestani and Kherfi (2015), Al-Shayeb and Hatemi-J (2016), Lima et al. (2016), Aftab et al. (2017), and Gregoriou (2017).

  11. For example, in Austria and at the current lag, the estimate attached to ΔPOS is 0.72 and highly significant but the one attached to ΔNEG is − 0.09 and insignificant.

  12. In addition to the F test for cointegration, we have also reported the ECMt-1 test. Under this test, we use normalized long-run estimates and the long-run model and generate the error term, denoted by ECM. We then go back to the error-correction model and replace the linear combination of lagged level variables by ECMt − 1 and estimate the new specification at the same optimum lags. A significantly negative coefficient of ECMt − 1 supports cointegration. Pesaran et al (2001, p. 303) also tabulate new critical values for the t test that we use here (see notes to Table 1).

  13. Our country specific results could be due to different degrees of vulnerability to changes in the Euro exchange rate by different members. Possible differences in the pass-through of the nominal exchange rate into import and consumer prices, and differences in the price elasticity of export volumes could be the cause (Dong 2012). Differences in trade openness and in integration in global value chains can also contribute to different results (Di Mauro et al. 2008; European Commission 2014).

  14. Future research should concentrate on disaggregating trade flows of each country by its major trading partners and on estimating trade balance models at the bilateral level in order to reduce aggregation bias, an approach similar to Bahmani-Oskooee and Fariditavana (2016).

  15. See Amiti et al. (2014) who highlight the importance of intermediate inputs for explaining the incomplete pass-through of exchange rate changes to international prices.

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Acknowledgements

Valuable comments of three anonymous referees are greatly appreciated. However, any remaining error is our own.

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Authors and Affiliations

  1. The Center for Research on International Economics and Department of Economics, The University of Wisconsin-Milwaukee, Milwaukee, WI, 53201, USA

    Mohsen Bahmani-Oskooee & Amirhossein Mohammadian

Authors
  1. Mohsen Bahmani-Oskooee
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  2. Amirhossein Mohammadian
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Corresponding author

Correspondence to Mohsen Bahmani-Oskooee.

Appendix: Data definition and sources

Appendix: Data definition and sources

All data are quarterly and do come from the following sources:

  1. a.

    International Financial Statistics of the IMF

  2. b.

    Bank for International Settlements

The original euro zone countries and study period for each country are as follows:

Country

Period

Country

Period

Austria

1999Q1–2016Q4

Ireland

1999Q1–2016Q3

Belgium

1999Q1–2016Q3

Italy

1999Q1–2016Q3

Finland

1999Q1–2016Q3

Luxembourg

1999Q1–2016Q3

France

1999Q1–2016Q4

Netherlands

1999Q1–2016Q3

Germany

1999Q1–2016Q3

Portugal

1999Q1–2016Q3

Greece

1999Q1–2016Q3

Spain

1999Q1–2016Q3

Variables:

  • TB: Trade Balance, defined as the ratio of imports from the world over exports to the world, source a.

  • Y: Index of real GDP, source a.

  • YW: World income. Following Bahmani-Oskooee and Ardalani (2006) and Nusair (2016) we too use index of industrial production in industrial countries as a measure of world income. Source a.

  • REX: Real effective exchange rate index of euro that is relevant to the whole euro area. Due to method of construction, a decline reflects euro depreciation. Source b.

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Bahmani-Oskooee, M., Mohammadian, A. Who benefits from euro depreciation in the euro zone?. Empirica 46, 577–595 (2019). https://doi.org/10.1007/s10663-018-9408-8

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