Major Downside for the Euro to Dollar Exchange Rate
The euro could drop against the dollar, as the European Central Bank (ECB) will put on the brakes again. The EUR/USD had moved in favor of the euro recently, rising to new heights over the past five months. The ECB and Mario Draghi have reaffirmed the ECB’s ultra-expansive approach to monetary policy, which should balance the United States Federal Reserve’s similar dovish approach, which has weakened the greenback.
Both the Fed and the ECB are urging caution, expressing an overall sense of concern about the strength of the world economy. (Source: “Draghi: ECB will do ‘whatever is needed’ to raise inflation,” The Province, April 7, 2016.)
Still, the weaker party in the EUR/USD pairing is the euro. The Fed may have avoided lifting rates, but it still expects to do so at least twice before the end of the year. This suggests that EUR/USD parity is still probable.
Indeed, the ECB is open to expanding its already loose current quantitative easing (QE) measures, should the eurozone’s economic situation worsen. That prospect alone should keep pressure on the EUR/USD. It has already fallen this afternoon in Europe to a low of 1.1342 and opened at 1.1453, the highest level since mid-October. The euro has also lost points against the Japanese yen (JPY).
The dollar has not yet revealed all of its cards. However, analysts from Rabobank are convinced that the Fed will raise rates at least twice this year, perhaps in June and December. This suggests that the EUR/USD will go lower than the current $1.13 to $1.14 range and, barring extraordinary changes of course, drop further. The European Central Bank seems geared toward further monetary easing measures.
The president of the Philadelphia Fed, Patrick Harker, echoed the suggestion. He added that if the economy were to continue to grow at the current pace, the Federal Reserve should consider another increase in interest rates as early as April. He would even welcome at least three more increases later this year. (Source: “Philadelphia Fed Chief Harker Calls for 3 Rate Hikes This Year,” Reuters, March 23, 2016.)
The ECB, according to its annual report published Thursday, has bearish prospects for the global economy. The bank sees persistent deflationary forces, doubting the European economy’s resilience to potential shocks. Draghi says that the eurozone still needs the ECB’s stimulus plan. That means the ECB will continue to print money for the purchase of sovereign debt securities. Mario Draghi, in the preface to the ECB report, also says inflation is too low, which means that the economic growth stimulus plan will continue for some time to come. (Source: “ECB Underlines Readiness to Act amid Europe’s Manifest Fragility,” Bloomberg, April 7, 2016.)
In turn, it is unlikely that European growth or inflation will reach a high enough level to match the United States, thereby prompting a shift in the current quantitative easing trend favored by the ECB. EUR/USD parity is a realistic expectation. Indeed, while the ECB will stimulate the flow of money, the U.S. Federal Reserve could increase rates again. (Source: Ibid.)
The prospect of more 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 and terrorists. This will put pressure at the seams of global economies, including the eurozone economy, which doesn’t bode well for the euro to dollar exchange rate.