The Euro’s Effects On Trade Imbalances In The Euro Area

In 1999, the euro area was established with the introduction of the euro as a common currency. In July 2002, national currencies of all 11 member states were taken out of circulation. The euro became the only legal currency in the euro area. As the first monetary area practicing the theory of optimum currency area, the euro area has received much attention since its establishment. However, most scholars focused on the euro’s positive impacts rather than negative ones. In addition, the trade balance of the euro area has always been close to balance. Therefore, few people associate euro area with trade imbalances. Not until the outbreak of the Greek sovereign debt crisis and the following European debt crisis did people started to think about the euro’s negative impacts on member states’ economies. However, still not many people attribute the debt crisis to the trade imbalances in the euro area.Against this background, this paper mainly focuses on the study of euro’s impacts on trade imbalances in the euro area, taking the 10 member states as study subjects (Germany, Ireland, Netherlands, Austria, Finland, Greece, Spain, France, Italy, and Portugal) over the period from 1990 to 2007. The study mainly includes three parts, the evolution of trade imbalances, theoretical analysis and empirical tests.Firstly, we compared the overall trade of the 10 countries before and after the introduction of the euro from aspects of trade size and trade structure. According to the change directions of their trade balances, we divide the 10 countries into trade-improved countries and trade-deteriorated countries. After the introduction of the euro, the growth rates of trade-improved countries’ exports and imports both increased, resulting in the improvement in trade balances, while the growth rates of trade-deteriorated countries’exports and imports respectively decreased and increased, resulting in the deterioration in trade balances. The euro area’s overall trade balance keeps balance.Secondly, after the euro’s introduction, euro asymmetrically affected the trade balances of the two sets of countries through four channels, i.e. trade cost effect, catching up effect, financing facility effect and competitiveness effect. (1)Trade cost effect increased euro area’s trade by decreasing trade costs, while asymmetrically affected the two sets of countries by increasing competition. (2)Catching up effect changed member states’ consuming, saving and investing behaviors through convergence expectation. Trade-imprcved countries tended to increase saving and decrease investing, which led to trade balances’ improvement. Trade-deteriorated countries were just the reverse. (3)Financing facility effect influenced trade-deteriorated countries’ saving and investment through interest rate channel. It also improved their financing environment and decreased their financing costs, which increased their debt levels and deteriorated their trade balances. Trade-improved countries were just the reverse. (4)Competitiveness effect weakend trade-deteriorated countries’ competitiveness by appreciating their real exchange rates, which deteriorated their trade balances. Trade-improved countries were just the reverse.Finally, we use fixed effect model to test euro’s effects on trade imbalances with panel data of the 10 member states over the period from 1990 to 2007. The results show that a country with a low level of real GDP per capita, a high level of initial interest rate or appreciation in real exchange rate tended to deteriorate its trade balance, and vice versa. Besides, after stripping out the impacts of catching up effect, financing facility effect and competitiveness effect, euro additionally increased the trade balances of trade-improved countries and decreased the ones of trade-deteriorated countries.Using fixed effect model to test the two sets of countries respectively, we find trade-improved countries have a more significant catching up effect, while trade-deteriorated countries have a more significant competitiveness effect. In addition, for countries at different development levels, catching up effect’s impacts on trade balances are different too. When a country has a relatively low income level, economic growth will lead to deterioration in trade balance at first. With the further improvement in income level, trade balance will be gradually improved.We suggest that trade-deteriorated countries raise labor productivity and improve product competitiveness, change saving and consuming behavior, therefore improving their trade balances. Besides, we deem that euro area’s admittance criterions should increase constraints on member states’ current accounts or trade accounts, ensure that member states’ trade imbalances are controlled at sustainable levels.