Angela Merkel, the German chancellor confirmed last week that her fourth and current term would be her last.
The 64-year-old, often hailed as the world’s most powerful woman, has dominated European politics for over a decade.
The leader of the Christian Democratic Union (CDU), Merkel has been the German Chancellor since 2005.
Merkel is the first ever female German chancellor. She will relinquish her role in 2021.
The de facto leader of Europe, Merkel has been a stabilizing force for the Eurozone over the past decade. The CDU leader was instrumental in leading the Eurozone during the debt crisis that started in 2009.
Under her leadership, Germany consolidated itself as the strongest economy in the EU, and fourth strongest in the world.
When Merkel announced the news last Monday, it came as no surprise that the Euro took a wobble.
Huge currencies such as the US dollar, the British Pound and the Japanese Yen all edged higher against the Euro.
How Are Currencies Compared?
Foreign Exchange (Forex) refers to the buying or selling of one currency for another. In the Forex market, currencies always trade in pairs.
This means that every transaction exchanges one currency for another. So, if the GBP/EUR exchange rate is 1.14, it costs £1 to buy €1.14.
This is the rate as of 2 pm on Nov. 5, 2018 – but as the market moves, the amount will vary from minute to minute.
When Angela Merkel announced she was stepping down on Oct. 29, 2018, the GBP/EUR exchange rate fell to a low of 1.12.
Why Did The Euro Drop When Merkel Quit?
There are several factors that affect the value of a currency and its Foreign Exchange rate.
One of these key factors is political stability. A country or region that has no political turmoil is more attractive to overseas investors. The more investors somewhere attract, the more its foreign capital increases.
This leads to an appreciation in the value of the countries currency. If a country is facing a time of political uncertainty, its currency value drops.
In this case, Angela Merkel was perceived to be the leader of Europe.
When she announced her plans to step down after years at the helm, she set in motion a bitter battle to find her successor. This successor will control of one of Europe’s most powerful political parties, but their identity has yet to be decided.
This is a classic example of a currency’s worth falling due to political uncertainty in the region it’s used.
The British Pound strengthened in value against the Euro when Merkel’s news was announced. However, after its initial rally, the pound dropped again later in the session.
This was due to UK Chancellor of the Exchequer, Philip Hammond, presenting his Autumn Budget. This is expected to be the last Budget before the UK leaves the EU next March.
Before the budget, the British Government insisted that all spending would be fully funded. This budget includes a considerable increase in spending, while the UK has not yet reached a Brexit deal.
No one truly knows how Brexit will affect the UK’s economy. But, this increase in spending by the UK’s Government is seen as a huge risk by some economic experts.
This is another case of political stability having an impact of the value of a country’s currency.
What Other Factors Impact the Worth of a Currency?
- Government Debt: Government debt is national debt owned by a country’s central government. Countries with government debts are less likely to acquire foreign capital, thus inflation and currency depreciation occur.
- Interest Rates: Foreign exchange rates, interest rates, and inflation are all related. Increasing interest rates cause a country’s currency to appreciate – higher interest rates provide higher rates to lenders. This attracts more foreign capital and causes a rise in exchange rates.
- Recession: If a country is in recession, its currency weakens in comparison to countries that aren’t. Recession causes interest rates to fall and decreases a country’s chance to acquire foreign capital. As a result, the currency falters and its exchange rate weakens.
- Speculation: When a country’s currency value is expected to rise, investors will demand more of it. Their plans to make a profit in the future will increase the demand for the currency. As a result, the currency’s value will rise – with this increase in value comes a rise in the exchange rate.