Back in January 2002, we analyzed the fate of the euro in this section, looking at its performance since its launch and placing the technical framework for what appeared to be a move up, destined to hit the $1.17-$1.20 area. As is often the case in the currency markets, the euro has not only overshot on the upside, but has clearly been on an uninterrupted rampage against all currencies reaching 1.2950 against the US dollar. This has been the result of a confluence of factors. While it is entertaining to look at the factors, we should keep in mind that the strength of the euro is more attributable to a weakness in the US dollar, both market driven and policy driven than any convincing fundamental strength in the European economy, either nominally or on a relative basis. The fact that global central banks, especially in Asia have been replenishing their non-dollar reserves as the euro has gained adopters, has exacerbated the trend. The US has basically “allowed” the dollar to drift lower, only paying lip service to calls by European business leaders to stabilize it, primarily because it represents a clear edge for American companies and does in effect reduce the value of US debt, held by foreigners. This is a gross oversimplification, as the currency markets are pretty much driven by demand and supply, and as the US economy has grown, it has sucked in more imports as added fuel to the currency’s gains. Though it is the author’s view that the rise of the euro is nearly over, let us look at its effects, anecdotal and fundamental, on the economies of Lebanon and the region.
For Lebanon, the euro’s move has caused several punctual trends to amplify, as if the conditions of the economy weren’t tough enough. Europe is Lebanon’s largest trading partner, as imports into Lebanon from the key European countries (Italy, France and Germany) account for 29% of total imports. It is not surprising that the euro’s 35% appreciation against the dollar, in a highly dollarized environment, has been felt in many sectors – most acutely in automobiles, but also in food and apparel. Already hit by a weak domestic economy, and the accompanying drop in the purchasing power of households, European goods have added a further burden. The price jump of products originating in Europe has caused some spectacular price changes in cars and even shampoos, causing shifts away from them towards Asian and US goods. It is too early to gauge the full impact, but in the contracting area for instance, there is talk of a 25% to 40% jump in construction costs, in part attributed to the roaring euro. To be fair, the prices of dollar-priced materials associated with building also played a role, as steel, cement and copper prices rose considerably in a matter of months. Copper, for instance, has doubled since the month of September.
While one cannot yet speak of durable changes in consumer behavior towards European products, it is clear from speaking to retailers and traders, that the rise, if it were to last, could rebalance the local product distribution in favor of non-European products. For businesses importing European products, the hit to the bottom line has been felt, as they are unable to pass on the full euro rise, and thus feel the pinch to their volume growth and eventually, bottom line. Clearly the banks here have a greater role to play in developing hedging ideas for their customers, who rely on imports that are not priced in dollars. As always, most banks, mesmerized by their favorite client – the state – are not innovating when it comes to guiding their clients through the vagaries of currency fluctuation. They are left to figure out how to protect themselves, largely on their own.
While products and services have clearly suffered, there is a more intangible aspect to the euro’s (and to a lesser extent the sterling’s) rise – which is the general impoverishment of Lebanon and the region. For the oil states for instance, who ought to be enjoying the fruits of a $35/barrel oil price, and are hit with a collapse of their own currencies that remain for the most part pegged to the US dollar – this is an offsetting factor. As more money, post-September 11 trends, has remained in local currencies, the reverse wealth effect is clear, and it has translated into a paradigm shift, at least for now, in tourism. And the winner has been, to a large extent Lebanon. As many Gulf Arabs shun Europe due to the increased cost of a week in France, Italy and Spain, they have opted for vacationing in Lebanon, a more easily absorbed “dollar for dollar” holiday. Intuitively, one would hope that industries such as wine and olive oil would be clear winners of the current environment.
As long as the region thinks in dollars, and calculates its net worth in dollars, large swings in foreign currency will have an impact – but quite frankly, it is hardly the most crucial problem at present for the region, which suffers from deeper structural weaknesses. Still, a spike in the euro has added complexity to doing business and buying goods. It is likely that if, and when the euro deflates, (I happen to think it will toward $1.10), the pressures on retail trade will subside, and the ability of the author to purchase his dream German automobile may improve. The move of the euro has undoubtedly reflected the fragility of a region linked almost umbilically to the US dollar, as reserves are revalued in terms of their global worth, and households reassess their appetite for cherished European goods. It is also worth noting that the shift of preference by some Arab shoppers toward European products in the context of the unpopular war in Iraq has been dealt a severe blow.
