Wednesday, March 26, 2008

The Advantage Of A Stronger Currency

In contrast to Ireland, the German economy appear to be reasonably strong, as was confirmed by the latest Ifo-report of German business confidence, which rose for the third month in a row.

What I found remarkable in the Bloomberg news story about it was this formulation:

"German companies have increased efficiency and reduced labor costs, helping them remain competitive even after the euro gained 17 percent against the dollar in the past year and oil rose above $100 a barrel."

But why should oil for German businesses be calculated in dollars? Wouldn't it be more accurate to calculate in euros? And in euro terms, oil has risen a lot less than in dollar terms. Oil now cost €65 per barrel. While that is too relatively high this increase is a lot lower than the dollar increase. For example, when oil temporarily peaked in August 2006, it was priced at $78 per barrel, or €61.5 per barrel. Since then, the dollar price is up 30% in dollar terms, but only 5.5% in euro terms. Because of the euro strength, the oil shock is quite mild for Europeans. Here is a graph for The Economist's commodity price index which illustrates a similar point. Much of the commodity price boom clearly reflects dollar weakness, meaning that commodities are relatively much cheaper in euros.


Blogger flute said...

Another thing that makes the oil price shock less severe for European countries is the fact that most European countries have much higher taxes on e.g. petrol than the USA, so percentagewise at the consumer level the increase in crude oil prices is not that bad at all.

Ah, the advantage of high taxes ;-)

1:57 PM  
Blogger stefankarlsson said...

Hehehe, I wouldn't be to sure about that. These taxes of course constitute a voluntary negative supply shock. Although that makes further negative shocks relatively less harmful, that still makes you worse off than otherwise.

4:02 PM  

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