CM – Euro falls to nine-month lows as Fed and ECB policies diverge

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The euro is trading near its lowest level in nine months against the dollar as investors bet that the euro zone will maintain lower interest rates and recover more slowly than the US.

The European Central Bank has announced that it intends to keep financial conditions relaxed for the foreseeable future in order to cushion the economic recovery in the euro zone. In contrast, Federal Reserve officials have signaled that they are on track to reverse monetary policy later this year.

The division of monetary policy means that investors may be paid more for holding US dollar investments such as government bonds than investments in the eurozone, where government bonds in Germany and some other countries already have yields below zero.

« The idea is that as we move into a slightly more mature phase of recovery in the developed world, the central banks will start tightening their policies, but the ECB will sit back at the end of the line, » said Simon Harvey, chief executive Foreign exchange market analyst at the broker Monex Europe. « You won’t get that return there. »

The euro is down 3.9% against the dollar this year, trading at $ 1.1737 early Tuesday.

The eurozone, which has long struggled with higher inflation, is also less likely to get higher for an extended period than the US or UK, analysts say. Both countries have a more flexible labor market, which makes recruitment more competitive and enables workers to demand higher wages. Persistent inflation could prompt these central banks to raise rates earlier.

Against the euro, a recent surge in Covid-19 cases with Delta variants also weighs on. As cases increase worldwide, some Asian countries are turning back to lockdowns and other measures to contain the virus that are likely to affect growth in the region. This is likely to put a strain on large economies such as Germany, which have strong trade relations with China.

« If China slows down, it will be felt in Germany, » said Jane Foley, head of foreign exchange strategy at Rabobank. “This is one of the reasons why the ECB will be lower interest rates for longer.”

Hedge funds have amassed net bets on a further weakening of the euro against the US dollar, with these bets being almost the largest since March 2020 – the height of the market crash when the dollar rose.

Certainly some analysts are betting that the euro could rebound once global risk appetite and worries about global growth subside. The eurozone countries are among the most heavily vaccinated in the world, which is a sign that the economic recovery there could be faster than in other countries.

« This is just a global re-evaluation of the bullish story that prevailed in 2021 and that means we are approaching the end of Covid and you will see this strong rebound in global growth, » said Derek Halpenny, director of research for global markets at European area at MUFG Bank. « The vaccination rates, if you look at it, are all at the top of the list. That will help, but we have to let this reassessment of global growth run out first. » we can get back to the positive baseline for Europe. « 

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euro falls to nine-month low , as Fed, ECB policy diverges
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2021-2023 exchange rate forecasts of the investments Bank Nordea – update August 2021

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