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Economic Implications of Euro Integration: A Study on Currency Volatility and Equity Returns in the European Union

This study delves into the impact of the Euro integration on currency volatility and equity returns within the European Union. Through comprehensive methodologies, analysis, and conclusions drawn, it explores the intricate relationship between currency fluctuations and equity market performance. The findings suggest a correlation in currency volatilities among Eurozone countries pre-unification but highlight the need for additional variables to fully explain equity returns post-Euro introduction.

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Economic Implications of Euro Integration: A Study on Currency Volatility and Equity Returns in the European Union

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  1. Currency Unification: Foreign Exchange Volatility and Equity Returns A study of the European Union and the effects of the Euro

  2. Agenda • Hypothesis • The Euro Zone • Methodology • Analysis • Conclusion • Further Analysis

  3. Hypothesis • A unified currency within a region of countries will reduce currency volatility • This should decrease equity market volatility • As a result lower equity returns

  4. Austria Belgium Finland France Germany Greece Ireland Italy Luxembourg Netherlands Portugal Spain The Euro Zone

  5. Methodology – Obtaining Data • Daily currency exchange rates (1970 - 2001) • Calculated an average monthly standard deviation of FX rates (proxy for volatility based on daily data) • Monthly equity index returns • (MSCI local currency)

  6. Methodology – Testing • Examined equity return correlations • Examined FX correlations • Regressed exchange rate deviations (with $US) against local equity returns

  7. Methodology – Perform Regressions • Regressed FX std deviations against local returns • Performed raw direction count • Metrics used – Eurodollar interest rate, world equity returns

  8. Methodology - Forecasts • Performed out of sample forecast for 1999-2001 samples • Calculated conditional volatility using ARCH

  9. Analysis- FX

  10. Analysis - Equity

  11. Analysis - Regressions

  12. Conclusion • Increasing correlation between Euro-Zone equity Returns • Convergence in currency volatilities among countries within the euro zone leading up to ccy unification • Unable to prove a robust relation on equity returns with our regressions • Perhaps need more variables

  13. Further Analysis • Equity returns are affected by a number of factors, not solely currency fluctuations • Identify other variables eg. Trade, mkt cap etc. • Euro introduction was not a distinct radical step in the process of economic unification, the EU has been integrated for years • Identify other regions in which FX convergence might occur

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