Big Problems for the Euro to Dollar Exchange Rate
The eurozone is heading toward a more challenging period. The euro to U.S. dollar exchange rate could be about to hit parity. On March 10, the European Central Bank (ECB) could adopt lower interest rates alongside other monetary easing mechanisms to stimulate economic growth in the eurozone.
It is unlikely that European growth or inflation will reach a high enough level to warrant a shift. Last December, the ECB was resolute about stimulating growth. All this has contributed to lifting the U.S. dollar against the euro. This alone will bring the two currencies closer together. Yet, for the EUR/USD forecast, parity is a realistic expectation. Indeed, while the ECB will stimulate the flow of money, the U.S. Federal Reserve (a.k.a. “the Fed”) could increase rates again.
The prospect of increased weakness in emerging markets, particularly in China, which will keep commodities and major producers like Brazil under pressure will combine with rising unstable geopolitical situations in the Middle East and the spillover effects with refugees putting pressure on the seams.
There is still the issue of Russia and the cost that sanctions have had on several European countries. Sanctions and Russia’s inevitable reactions have broken what was a lucrative market in a rapidly expanding consumer economy. Amid all that, high unemployment and stagnant wages remain.
There are many predictions about the euro-dollar exchange rate ahead of the ECB meeting. Yet most predictions are that the EUR/USD will edge ever closer to parity.
The ECB has little choice. It will act more aggressively to achieve a two-percent inflation target. ECB governor Mario Draghi will do so even if it means intensifying the scope of the quantitative easing (QE) he already “eased” in 2015.
The EUR/USD exchange rate is a key indicator for the world’s financial markets. Given the ECB’s needs, the institution will encourage risk; this means, it will prompt investors away from secure investments or havens, such as the German bund, with interest rates on deposits and the plan to purchase securities included in quantitative easing. (Source: “Trading ECB: Scenarios For EUR/USD – Goldman Sachs,” Forex Crunch, March 7, 2016.)
Goldman Sachs also expects an additional cut on deposit interest rates. The key figure to consider is 10 basis points. If the ECB cuts rates by that amount, it would send a bearish enough impulse to the EUR/USD pair to prompt parity.
In the months and years ahead, each European Union (EU) member state will have to confront its own respective economic consequences of the EU’s foreign policy. Sustained austerity policies, aimed at sustaining the euro, have triggered social, economic, and political discontent, all accented by problems in the Middle East and Ukraine, and even causing the “Brexit” sentiment, which could see the U.K. leave the EU.
The short-term expenses to provide assistance to asylum seekers are significant. Then there are the costs of humanitarian assistance to provide food and shelter, expenses associated with the necessary linguistic training and schooling, steps to identify the skills of immigrants, and the costs associated with the processing of asylum applications. All this is expensive—after all, the refugees and migrants are in the millions, not the thousands.
Apart from the inevitable costs, EU citizens might become more reluctant toward the refugee intake policies, weakening political links like the Schengen passport-free zones. In other words, the Middle East refugee is eroding the glue that has bound the EU together, adding to the perception of burden that has overwhelmed many eurozone citizens already.
Amid the variety of sources putting pressure on the eurozone’s economy, the U.S. shows comparably much stronger results. The U.S. labor market created 242,000 jobs in February, according to the U.S. Department of Labor. Meanwhile, the unemployment rate remained at 4.9%, its lowest level in eight years. This may persuade the Fed to raise interest rates.
Even if Fed Chair Janet Yellen manages to avoid the move, a further rate is inevitable and it could come in June, if not in March. Meanwhile, prospects for the ECB are not yet bullish enough to warrant a change of pattern away from quantitative easing. This points to EUR/USD parity likely happening before the end of spring.