Euro Zone Fiscal Austerity

Will recent agreements regarding Euro Zone fiscal austerity lead to a Euro Zone recovery and a stronger Euro? Can Forex traders profit from the response of the Euro and other currencies to a coming solution to the debt crisis that has plagued the continent for more than two years? As good news emerged from Europe, US stocks rallied across the board as did markets throughout the world. Many believe that a more stable European economy will remove the last impediment to a global economic recovery. Thus the agreements on Euro Zone fiscal austerity have a much broader impact than just in the Euro Zone. This reaction to events in Europe is testimony to the interconnectedness of the world economy. The wide range of US, European, and other stocks that advanced implies that first of all business is already getting better for some companies. Second, it implies that a resolution of the European debt crisis will help business throughout the world and across the board. Europe is, after all, the world’s first or second largest economy, depending on whether the USA or EU is in first place.

Asian exporters, especially, are concerned about a recession in Europe and decreased sales. On the other hand when Euro Zone fiscal austerity measures help in rectifying the debt dilemma in Europe companies in Europe will benefit but so will exporters from Asia and around the world.

The point of the Euro Zone fiscal austerity agreement is to prevent national governments from running up huge debts in their attempt to please voters. The massive debts incurred in the southern tier of nations have threatened to break up the EU. The so called PIIGS group (Portugal, Ireland, Italy, Greece, and Spain) have required financial support in paying off and issuing new government bonds. The situation has been so bad in Greece that there have been riots in response to suggested austerity measures. The issue for local politicians is that they must satisfy their constituents at home in order to stay in office. With the new Euro Zone fiscal austerity measures in force these same politicians will have a second constituency, the rest of the EU and the European Central Bank. If a country does not exercise fiscal discipline it will probably not be able to expect a bailout if times get tough again.

Forex traders can profit from Euro Zone fiscal austerity but will need to understand how measures to fix the debt problem will affect the EU economy and how the EURO trades against other currencies. First of all heightened fiscal austerity is expected to result in a mild recession in Europe this year and maybe next. Second, persistent fiscal austerity will likely lead to a stronger European economy and contribute to a stronger Euro. Third, to the degree that the European Central Bank follows the Bernanke Doctrine and prints money in order to pay off EU debts it will tend to devalue the EURO. Forth, a devalued EURO will make European products more competitive in world markets and lead to an economic recovery. Fifth, an economic recovery could lead to a stronger EURO. For Forex traders profits will have to do with timing.