With currency markets constantly in flux, you might wonder if a weak currency is good or bad for a nation’s economy. The answer? It depends on the economy.

The euro, for example, saw a damaging fall that took the currency down to lows not seen in about four years. Some think this has been positive for the Euro countries — their exports have taken off and they have been able to buffer the plunge in domestic demand and confidence. At the same time, don’t expect Europeans to be travelling as much or buying as many goods abroad.

In the second part of our two-part piece about extreme movements in exchange rates, we’ll explore the pros and cons of a weak currency. As there are two sides of every coin, a weak currency also has its advantages and disadvantages. A weak currency might sound negative, but for an export dependent country like Australia, can actually have many advantages.

Pros of a weak dollar

1. Increased exports

A weaker currency increases the competitiveness of a country’s goods. It boosts foreign demand while keeping consumer demand domestic. Over the medium term, this benefits corporations, which eventually translates into more jobs and consumer spending. It also helps reduce trade deficit.»’

2. Foreign investment»’

If a currency continues to fall, foreign investors may buy up companies with sound fundamentals that are less vulnerable to an economic slowdown, and can encourage value hunting in the equity markets. These factors are contingent upon the currency showing signs of stabilization. Foreign investors will only swoop in when they believe the weakness is nearing an end. Less contingent on the currency outlook, a weaker currency also makes corporations more attractive merger and acquisition targets.

3. Increased tourism

Tourism is a big part of most major economies because it supports employment for workers and generates sizable annual revenues. A weaker currency helps to boost tourism, which is good for any economy.

4. Profitability for companies

Multinational companies with high foreign revenue benefit the most from a weaker currency. Their foreign currency revenue will be higher when repatriated, not because they sold more goods, but because they earn more from currency conversion. The industries with the greatest foreign sales exposure are energy, technology and consumer staples.

Companies that produce commodities can also benefit as the weaker dollar drives commodity prices higher. For instance, Billabong recently complained they were being hurt by foreign currency translation because the Australian dollar was strong. It is the opposite situation, but the same rule holds.

Cons of a weak dollar

1. Higher costs for foreign goods The most immediate disadvantage of a weaker dollar is the increased costs for foreign goods. It is no secret that in many developed economies, consumers import far more than they export. For instance, Canada’s number one export country is the US, which is why the recent strength of the Canadian dollar is so important. Canadian drugs, for example, may not be the bargain they used to be. The opposite is true for European handbags and other luxury items, which have become a bargain thanks to the weakness of the euro.

Higher costs for foreign goods brings inflation, which is why a weaker currency is generally perceived to be inflationary. Although inflation is not a huge problem at the moment, the threat could push the central banks to retract monetary stimulus sooner than they might otherwise prefer.

3. Foreign travel is more expensive

On a consumer level, the weakness of a currency makes foreign travel more expensive. Since the beginning of the year, the euro has weakened more than 20 percent against the Japanese yen. Because of nothing more than currency fluctuations, travel to Japan has become 20 percent more expensive for Europeans.

4. Reduces profitability for importers

Companies that import a lot of goods or have significant expenses in foreign currencies are hurt the most by a weak currency. For example, if a European company owed a US company USD$1 million in account payables and the EUR/USD was trading at 1.50, the USD$1 million would be worth an equivalent of EUR 666,666.67. However, at 1.20, the same USD$1 million would be worth EUR 833,333.33. This is why it’s important for companies to hedge foreign exchange risk.

What do you think is the largest benefit of a weak currency? (Share your views below)