Weak currencies don't cause trade surpluses
By Scott Sumner
I’m seeing a lot of people claiming that Germany benefits from the euro’s impact on its trade balance. The argument seems to be that the euro is weaker than the Deutschmark would be, and that this explains Germany’s big trade surpluses. At the risk of sounding like a broken record, this is reasoning from a price change.
It would be more accurate to say the trade surplus causes the exchange rate. The current account (CA) surplus is equal to domestic saving minus domestic investment. And these two variables reflect deep fundamental factors in the German economy. Like other northern European countries, Germany saves much more than it invests. But this has nothing to do with whether a country is in the euro or not:
Country ** CA/GDP ** Exchange rate
Norway **** 10.4% ** float
Netherlands * 9.0% ** euro
Switzerland * 8.0% ** float
Germany *** 6.7% ** euro
Denmark *** 5.9% ** pegged
Sweden **** 5.8% ** float
Austria ***** 1.6% ** euro
Belgium **** 0.6% ** euro
The simple truth is that northern European countries tend to be high savers, and they run CA surpluses. It makes no difference whether they are in or out of the euro. Now for a few misconceptions:
1. What if the government “artificially” pegs the exchange rate?
That makes no difference; the price level will adjust until the real exchange rate returns to its long run equilibrium. This happened in Germany after 2005, when the actual euro exchange rate was too high and Germany had 11% unemployment. Then the German price level then fell relative to other countries. The only way a government can control the real exchange rate in the long run is by affecting saving or investment. (Norway’s high government saving might help explain their large CA surplus, but it’s not clear the public of that rich country wouldn’t have saved almost as much.)
2. OK, but what about the short run, before the price level adjusts? Surely a weaker currency temporarily boosts the trade surplus? Not necessarily, as there are both the income and substitution effects to consider. In April 1933, the US devalued the dollar and the trade balance worsened for the remainder of the year, as fast growth in the US sucked in imports.
In any case, it makes no sense to provide “short run” explanations for Germany, or any northern European country. These surpluses have persisted for a long time, and there is no sign of inflation in Germany pushing the economy back toward CA balance. There is nothing desirable about CA balances, and (thank God) governments can’t really do much about the “problem” anyway.
PS. Is there any field outside of macroeconomics where the so-called experts make more elementary errors in opinion pieces?
PPS. Data was from the Economist magazine.