The Real Effects of the Euro: Evidence from Corporate Investments*

Abstract

We study how the adoption of the euro as the common currency in Europe has affected firms' investment rates. Using corporate data from the eleven countries that adopted the euro in January 1999, as well as from a control sample of five other European countries, our paper shows that: (i) the euro has increased investments for firms from countries that previously had weak currencies, (ii) the euro has had a positive impact on financially constrained firms' investments, and (iii) the euro has decreased investments for financially unconstrained firms from countries that previously had strong currencies. Disciplines Finance | Finance and Financial Management CommentsAt the time of publication, author Yrjo Koskinen was affiliated with Boston University School of Management and CEPR. Currently, he is a faculty member at the Wharton School at the University of Pennsylvania. We thank seminar audiences at SIFR and SITE in Stockholm, the 2004 EFA meetings in Maastricht, Binghamton University, as well as Franklin Allen, Marco Pagano, Michael Schill, and two anonymous referees for helpful comments.An earlier version of the paper constituted a part of the manuscript "The Euro Is Good After All: Corporate Evidence", which was presented at the ECB-CFS workshop in Helsinki. Nilsson acknowledges …nancial support from Jan Wallander and Tom Hedelius'Foundation. All remaining errors are our sole responsibility. AbstractWe study how the adoption of the euro as the common currency in Europe has a¤ected …rms'investment rates. Using corporate data from the eleven countries that adopted the euro in January 1999, as well as from a control sample of …ve other European countries, our paper shows that: (i) the euro has increased investments for …rms from countries that previously had weak currencies, (ii) the euro has had a positive impact on …nancially constrained …rms' investments, and (iii) the euro has decreased investments for …nancially unconstrained …rms from countries that previously had strong currencies.

The impact of the introduction of the Euro on foreign exchange rate risk exposures

“…Reductions in market betas imply reduced cost of capital with concomitant benefits for corporate investment and firm valuations. This result is corroborated by evidence in two recent studies of European firms by Bris et al (2003Bris et al ( , 2006 that the introduction of the Euro is associated with significant increases in Tobin's Q and in investment activity.…”

The euro and corporate financing before the crisis

“…Consistent with the corporate investment results in Bris, Koskinen, and Nilsson (2006), we find that euro firms have significantly increased their noncash assets relative to other firms. Interestingly, cash holdings, dividends, or total payouts have not grown compared to our control group.…”

Interest rate sensitivity of the European stock markets before and after the euro introduction

“…The weak euro countries include Finland, Italy, Ireland, Portugal, and Spain, and they are labeled so as they each experienced a currency crisis during the 1990s. Interestingly, Bris et al (2006) report increased investment activity among those euro area firms that suffered from financing constraints prior to the euro, which suggests that firms are using the improved access to financial markets to finance growth. Hardouvelis et al (2007) and Francis and Hunter (2004) provide further support for the connection between the euro introduction and a reduction in the cost of equity.…”