Dangers of Euro Exit or Devaluation

Sep 18

The European Union, comprised of 27 member states, may be considered together to represent an economy larger than the United States. Globally the European Union represents about 20% of the global economy (based on the CIA World Factbook). Over the last decade and a half, 17 of those member states have adopted the Euro, a common currency intended to make commerce between member states and global partners easier. The countries that have adopted the Euro are sometimes referred to as the Eurozone or Euro area.

The four largest countries to adopt the Euro are Germany, France, Italy and Spain. Together they account for 76.6% of the GDP among the Euro member states. Other countries that have adopted the Euro range in size from the Netherlands on the higher end to Malta on the lower end.

In terms of languages and cultures, there is a large diversity. In matters of perceived power distance and individualism, there are significant differences between member states in the Eurozone. These differences factor in to various aspects of risk, including risk of Euro abandonment and devaluation risk. Power distance and individualism have a significant impact on the political process and the social circumstances that influence currency decisions within a country. Specifically, these can range from austerity measures imposed for financial assistance to political ideology that shapes negotiations.

The impact of any country moving away from the Euro could range from disruptive to catastrophic. The magnitude of that range is expected to be proportional to the size of the economy that leaves. This means that a larger economy, like Germany, would have a more profound impact, while a smaller economy, like Malta, would have a lesser impact. However, even a smaller economy exiting the Euro, like Malta or Greece, could have a destabilizing effect far more significant than their proportional representation within the Euro.

The two scenarios under which this might happen include a country electing to leave the Euro and the EU member states ejecting a country from the Euro. There are various ways that this could happen, the most probable relating to politics and social pressures.

Devaluation of the Euro, also referred to as the collapse of the Euro, due to unchecked debt and general default by one or more members of the Eurozone, would have enormous repercussions within the Eurozone and throughout the world. Government bonds are commonly held by international funds. The decrease in the value of those funds would impact many outside the Eurozone. Imports and exports would likely stall until a stable means of exchanging could be found. Stock markets trading companies which operate primarily in the Euro would be immediately affected. Other stock markets would quickly follow as the impact on changes in imports and exports factored into the forecast for companies closely tied to the Euro or Eurozone members. There would be increased risk of inflation within the Eurozone, which could make it difficult for people to purchase common goods and employers to stay in business.

As was mentioned before, the perception of power distance and individuality play into the politics of a possible withdrawal from the Euro. A country whose citizens naturally trend toward accountability and individuality, may be more likely to find a way to remain within the Eurozone. Conversely, a country that trends toward collectivism may be more inclined to isolate themselves and leave the Euro, or participate in ways that are unhealthy and risk ejection. In terms of power distance, leaders with an inclination to discuss and negotiate may be more likely to find a resolution to remain within the Eurozone.

It has long been assumed that the risks and dangers associated with an exit from the Euro would be so significant as to deter any country from pursuing that course. Recent events in Greece and throughout the Eurozone have shown a marked increase in rhetoric regarding how an exit from the Euro might happen. In many cases the perceptions relate not only to the Euro, but the different perceptions on one country toward another. Tensions between countries regarding lifestyle, economic approach and government programs, among other considerations, can make the arguments surrounding an exit from the Euro more emotional than economic, thus disregarding the objective risk inherent in such a decision.

Any Euro exit or devaluation scenario, regardless of the country where it originates, would be a very undesirable situation for the Eurozone and the global economy.

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