Euro/USD Exchange Volatility Follows Greek Uncertainty
The country struggles with debt as high as 175 percent of GDP and is struggling to pay back its creditors: the European Union (EU), the European Central Bank (ECB), and the International Monetary Fund (IMF).
In addition to debt, the Greek economy suffers from structural issues such as powerful cartels and government unions, as well as stifling regulations that make it difficult for foreigners to invest, find jobs, and make a profit. At the same time, a lack of competitiveness, caused by overly inflated prices compared with the Eurozone, will also have to change before the economy can turn around.
On the edge of default
Greece has teetered on the edge of defaulting on its loans for quite some time, and if that happens, the country may be forced out of the EU. Many believe this could start a chain reaction leading to other countries, such as Spain and Portugal also exiting the Eurozone. Some believe that the EU will continue to extend emergency short-term loans to Greece to avoid that possibility, adding to the uncertainty.
With the future of Greece at stake, along with the continuing global recession, “the currency markets seem a bit more unsettled and have been making big moves for quite some time, ” according to Peter Tenebarum at the Acting Man blog.
Managing the currency risk
Volatile exchange rates pose a financial risk to companies operating internationally. The ECB has worked to quiet this currency volatility with its recent decision to print euros in order to buy government bonds. However, the prolonged uncertainty over the status of Greece has propagated throughout the European monetary system.
This leads to currency risk for companies that do business in foreign markets. For example, when the dollar is strong, goods made in the U.S. will earn American companies less when sold in Europe. American companies doing business in the Eurozone will earn less because euros are depreciated against the dollar.
To manage this currency risk, international companies can try to create a “natural hedge” by sourcing their materials and manufacturing their products in the same country where their customers reside. This is not always possible, though, so companies may need to use financial instruments of various kinds to hedge the risk.