Study on the Impact of the Euro on Trade and Foreign Direct Investment

Abstract

The introduction of the euro opens the door to a major advance in our understanding of how a common currency affects economic activity ranging from trade and foreign direct investment to wage-setting behaviour and corporate business strategies. Regarding the euro's trade effects we confirm the received wisdom that the euro has promoted trade significantly, with the aggregate impact being in the range of 5% or so. Then, we refine our understanding of exact how the euro was boosting trade by considering two main channels: the relative price channel (the euro boosted trade inside the Eurozone since it lowered the relative price of traded goods coming from the Eurozone), and the newly-trade goods channel (the euro induced firms to export a wider range of their products to the Eurozone) - an hypothesis confirmed by the use of four firm-level data sets. Lastly, using the best available data, theory and econometric techniques, we conclude that both Single Market integration and euro area membership have pro-FDI effects.

Keywords: euro, trade, FDI

JEL Classification: F15, F21