Question

1. How will a stronger euro affect the following economic agents?
a. A German exporter to England.
b. A Chilean tourist visiting the Netherlands.
c. A Canadian bank investing in a Greek government bond.
d. A German exporter to France.

2. Indicate whether each of the following creates a demand for or a supply of European euros in foreign exchange markets:

a. Newman purchases an Airbus plane assembled in France.

b. Mercedes-Benz decides to build an assembly plant in Charleston.

c. A Newman student decides to spend a year studying at the Sorbonne in Paris.

d. An Italian manufacturer ships machinery from Rome to Venice on an Egyptian freighter.

e. It is widely expected that the euro will depreciate in the near future.

Answer 1

1.a. A stronger Euro with respect to other foreign currencies or an appreciation in the value of Euro with respect to other international currencies implies a lower demand for goods and services of the EU region among foreign residents leading as the goods and services in the EU region has become relatively expensive to the residents of other countries leading to a reduction in the overall export level by the Euro countries to the rest of the world. Since Germany is a Euro country, the export of German goods and services to other countries would also be adversely affected due to appreciation of the Euro and thus, the export level of the German exporter to England would also decrease as a result of the general appreciation of Euro, in this case.

b. The appreciation in the value of Euro with respect to other international currencies signifies that the goods and services of the EU region has now become more expensive to the residents or citizens of other countries. Therefore, in this case as Netherlands belongs to the EU zone, the Dutch goods and services would become relatively more expensive to a Chilean tourist compared to previous value of Euro, holding everything else constant.

c. An increase in the currency value of Euro or general appreciation of Euro indicates that return on investment in any financial asset belonging to the Euro country has now increased in terms of other international currencies. Hence, considering that Greece belongs to the EU zone, as Canadian bank invests in Greek government bond, it would obtain a relatively higher financial return on the bond in terms of Canadian dollars due to the appreciation of Euro against Canadian dollar compared to the previous currency value of Euro.

d. As Germany and France both belong to the EU zone and use Euro as their currency, any change in the value of Euro with respect to the foreign or international currencies would not affect the trade of goods and services and other capital transaction between the two countries. Therefore, the level of export by the German exporter to France would not be affected or remain the same following the general appreciation of Euro with respect to other foreign or international currencies.

2.a. Considering that Newman purchases the Airplane bus assembled in France directly from the French manufacturer, it would have to make the payment for the purchase to the manufacturer in Euro. Therefore, it would increase the demand for Euro in the foreign exchange market. However, Newman purchases the Airplane bus assembled in France in its own country from any local seller then it can pay the purchase price in the domestic country in which case the demand or supply of Euro in the foreign exchange market would not be affected.

b. Now, if Mercedez Benz invests in an assembly plant in Charleston, the United States it would require US$ for the concerned investment implying that the company would have to sell or increase the supply of Euro in order to obtain the proportionate amount of US$ to finance the investment in the United States. Hence, Mercedez Benz's decision to build assembly plant in Charleston, US would cause an increase in the supply of Euro in the foreign exchange market.

c. As the Newman student decides to spend a year studying at Sorbonne in Paris, he or she would have to pay the entire cost or expense of studies in Euro and thus, it would create a higher demand for Euro as he or she would demand more Euro to pay of educational expense and other additional costs for his or her studies and stay in France. Therefore, in this case, the demand for Euro would increase in the exchange rate market for Euros as the student from Newman decides to spend a year studying at Sorbonne in Paris.

d. As the Italian manufacturer ships machinery from Venice to Rome on an Egyptian freighter it would have to pay the service fee to the freighter in Egyptian Pound which means that the manufacturer would have to sell or supply Euro in order to obtain or buy the required amount of the Egyptian Pound. Hence, in this case, the supply of Euro would increase in the foreign exchange market for Euros.

e. Due to the future expectation of depreciation in the value of Euro with respect to other foreign or international currencies, the residents of the foreign countries would hold their consumption of EU goods and services as they would become cheaper in the future as there is an expectation of a general depreciation of Euro thereby increasing the potential export of the goods and services from the EU region to the rest of the world. On the other hand, as the Euro is potentially expected to depreciate the residents or the citizens of the EU countries would increase the demand and consumption of foreign goods and services at present as they would become more expensive in the future due to the expected depreciation of Euro relative to the foreign currencies thereby increasing the demand for foreign currencies leading to selling or higher supply of Euro in the foreign exchange market for Euros. Hence, the supply of Euro would increase presently in the foreign exchange market for Euros due to the future expectation of the general depreciation in the value of Euro relative to other foreign currencies.