Same Strong Euro, New Economic Landscape

The European currency hit another high against the dollar, but with fewer exporters reliant on U.S. buyers, it's far from the worst problem

The euro hit another high against the dollar on Sept. 24, reaching $1.413 before falling back a bit, and some European exporters are starting to feel the pinch. Speaking on French radio Louis Gallois, chief executive of European aerospace giant EADS (EAD.PA), said that every 10¢ rise in the euro against the dollar would cost the company €1 billion ($1.405 billion) in operating profit. Airbus chief operating officer Fabrice Brégier added that the airplane maker may have to turn to more suppliers outside Europe if the euro holds its strength against the greenback.

No question, the decline of the dollar makes life tough for heavily export-dependent companies—especially when, as in the case of Airbus, their products are priced in dollars but costs are accrued mainly in euros. But the surprising news about the current currency runup is that its impact on European GDP growth won't be as bad as a similar move 10 years ago would have been. The reason, in short: Thanks to surging trade within the EU and with emerging economies, European exporters aren't nearly as dependent on U.S. sales as they used to be.

According to figures from Goldman Sachs (GS), 41% of eurozone exports in the second quarter of 2007 went to other European countries, vs. just 14.4% to the U.S. The rising prominence of the so-called BRIC countries—Brazil, Russia, India, and China—also has reduced the relative importance of the U.S. market. Some 9.1% of European exports now go to Asia, while Russia and the OPEC countries account for 9.3%.

Diversifying Beyond the U.S.

"The EU increasingly exports to places other than the States," says Michael Taylor, senior economist at London-based Lombard Street Research. "Those European economies that have taken the steps to remain competitive are less vulnerable to changes in the currency markets."

This bodes well for countries such as Great Britain and Germany that have opened up their domestic markets in response to global competition. Figures from German bank Allianz-Dresdner (AZ) show the country's exports will grow 6.8% in 2007, a drop of 5.7 percentage points year-on-year, but still ahead of the eurozone's overall expected export growth of 5.9%. Morgan Stanley (MS) expects British export growth to slow by the end of the year and pegs the country's GDP growth at 3% in 2007, about half a point higher than the eurozone average.

Other countries, including France and Spain, may not fare as well—but again, the reasons go beyond the rising euro. Spain, which has turned in the eurozone's best GDP growth in recent years, partly due to a booming housing market, looks set for a 0.9-point drop in growth this year, to 3.1%, according to the Bank of Spain. The real estate market is slowing—knocking back a construction industry that accounts for more than 20% of Spain's GDP—and private debt levels have spiraled. The country's unemployment rate last month also rose the most in 11 years, to 7.95%, but still remains more than a percentage point below the rate a year ago.

General Economic Slowdown

In France, the outlook is even more worrisome. European Central Bank head Jean-Claude Trichet warned on Sept. 24 that government spending in France will be much higher in relation to its GDP than for other European countries in 2007. Forecasts from Goldman Sachs now see GDP growth remaining unchanged at 1.7% until 2009. And French Prime Minister Francois Fillon has warned the country's finances are in a critical state (, 9/24/07).

The perilous state of French finances highlights the risks to the entire region from a general economic slowdown. On Sept. 24, the European Union's statistics office, Eurostat, released figures that showed new industrial orders in the eurozone had fallen 4% in July compared with the previous month. Research from the Royal Bank of Scotland (RBS.L) also shows that growth in the continent's manufacturing and service industries has fallen to a two-year low. Analysts say these could be the first indicators of an overall economic slowdown (, 9/11/07).

Ongoing Subprime Fallout

But RBS euro-area economist Gareth Claase says these figures had little to do with the euro's current record highs against the dollar. Rather, he says, the eurozone was already showing signs of slowing well before the recent wave of economic uncertainty emerged in the wake of the U.S. subprime mortgage crisis. "This isn't a story about the euro strengthening, but of the dollar weakening against other currencies," he says.

Goldman Sachs predicts the euro will hover around the $1.40 level well into 2008 and expects eurozone GDP growth to fall from 2.9% in 2006 to 2.6% this year.

Until the financial markets adjust to the fallout from the U.S. subprime crisis, it's hard to get a reliable take on the true global economic impact. But it's clear that the euro's record highs against the dollar won't have the same impact as they once would have. And while the eurozone may be in line for some trouble ahead, exchange rates are far from the biggest problem.

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