The Euro Currency Market

The Euro Currency Market

The European Union's currency, the euro, "is now in use by 12 nations with a total population of 300 million people in an economic zone two-thirds the size of the US economy" (Posen, 2005). According to Posen (2005), since its introduction on January 1, 1999, the euro has been readily accepted both at home and in global capital markets. "Several nations in eastern Europe and around the Mediterranean are eager to join the euro zone or peg their national currencies to the euro" (Posen, 2005). So far the euro has proven to deliver low inflation and interest rates throughout the Continent.

Euro banknotes are the same in every country. Coins differ between countries in that each nation is permitted to have one side carry a stylized design. The reverse side of the coins is the same in every country (The use of Euro, 2007). Euro banknotes and coins are issued by the European System of Central Banks, which includes the national central banks of the participating Euro countries (The European Union FAQS, 2007). Since the Euro's beginnings in 2002, its use has increased globally, as evidenced by the number of non-EU countries participating in its use; however, the dollar is still the dominant international currency (Rey, 2007).

According to the European Union, the benefits of the Euro include creating a single marketplace for consumer goods and services, making travel between European countries easier, creating a single financial market, integrating European countries politically, creating a macroeconomic framework, and advancing Europe's international role (Rey, 2007). The benefits touted by the EU have been evident in the five years since the currency began circulating.

Because the Euro replaced the currency used by so many individual countries and has been the subject of unilateral and bilateral exchange rate agreements, the Euro has become the second most important currency in the world, with the potential for competing with the US dollar.

Internationally, the dollar is still preferred in foreign exchange transactions and reserves. One reason for the continued predominance of the dollar is the fact that the dollar has been the established preferred currency for many years, making financial institutions and other economic agents reluctant to switch. While the use of the Euro has increased, foreign exchange trading in Euro currency has not increased internationally when compared with trading of the participating countries former currency. In other words, the Euro has simply replaced the national currencies of participating countries in the international market. Transactions on the foreign exchange market continue to be dominated by the dollar. While shares of Euros in reserve have increased, this increase has only been marginal (Rey, 2007). Because the Euro is common currency in participating countries, the risk associated with exchange rates has been eliminated between those countries, creating a single market.

Transactions between participating countries are done with a common currency with the same ease as transactions between states within the United States. As a result of adopting a common currency, participants have increased coordination with key securities in the government bond market and financial integration between member countries has increased as well. Equity price correlation has increased between participating countries since 2002. Non-participating countries have not seen the same increase in equity price correlation. A previously nonexistent corporate bond market has been growing between participating countries as well. The financial markets in the Euro participating countries have become more liquid, integrated, and diverse since the Euro was adopted (Rey, 2007).

A company that is conducting financial transactions with a Euro participating country from a country that does not use the Euro must continue to consider the risk associated with such