The euro’s decline in value relative to the dollar indicates that investors are shifting funds away from the Eurozone and into the US
The Euro and US Dollar reached parity on Tuesday. In other words, the value of the exchange rate changed so that one euro equalled one dollar.
On Wednesday, the euro dropped to $0.9998. The euro has never dipped this low against the dollar twice since 2002. The euro’s decline in value relative to the dollar indicates that investors are shifting funds away from the Eurozone and into the US.
Why is euro depreciating?
In general, since the beginning of 2008, the euro has been losing strength versus the dollar. However, the reduction has been pronounced since the beginning of 2021. The energy crisis after Russia’s battle against Ukraine has been the latest blow to the currency rate.
There are two main factors contributing to the euro’s persistent weakening against the dollar. First, the economy of the Eurozone is fragile. Two, the divergence in monetary policy responses between the central banks of the US and Europe.
When it came to economics, the COVID-19 pandemic and the budgetary measures used to combat it had left the eurozone’s economy vulnerable to historically high inflation.
Ukraine war makes European economies vulnerable
The European economy is at its most vulnerable right now as a result of Russia’s invasion of Ukraine and the ensuing restriction on Russian energy.
Because of the total reliance of Europe on Russian oil and gas, the extraordinary rise in energy costs has not only caused a crisis in the cost of living for the general public but has also caused investors to wonder if they should make more investments in the Eurozone.
Companies would be better served by moving their operations to the US, which has far greater energy independence. Therefore, the Eurozone is faring much worse, despite the likelihood that the US economy is weakening and perhaps approaching a recession.
As a result, the economic rationale for why money is leaving the Eurozone and moving to the US has been established. The main indicator of this change in attitude is the euro’s persistent decline against the dollar.
Monetary policy response
The monetary policy response by the European Central Bank (ECB) is one more reason why the problem is not going to end sooner.
The US Fed has made it clear that it would not stop until US inflation, which is also at multi-decade highs, returns to the goal rate of 2 per cent, which is utterly at odds with the ECB’s stance. So, even if it causes a recession, the Fed is rapidly hiking interest rates. The ECB hasn’t changed, in comparison.
The ECB hasn’t raised rates in response to the possibility that doing so (in order to manage inflation) may stifle the economic recovery. As a result, money has begun to migrate to the US for investment purposes since the US provides higher yields.
Why is dollar appreciating even in recession?
The US dollar continues to be the safest investment option for international investors, and economic news from other countries is often more negative than that from the US.
The US dollar is strengthening against all other foreign currencies, including the euro, the Japanese yen, and the Indian rupee, thus the euro’s weakening against the dollar should be considered in the context of this bigger trend.
In actuality, the Indian rupee has exhibited greater resistance to the dollar than the majority of other currencies, despite its ongoing weakening.
The strong appreciation of the rupee versus the euro since the beginning of 2022 is one example. It started off at about 90 and is currently at 80 to the euro.
How will the current trend shape the rupee’s value?
The rupee has recently strengthened significantly, making travel to Europe for vacations by Indians more affordable. However, if the euro stays weak and trends below parity, the rupee would also fall along with it.
In other words, the rupee, which is presently only a whisker away from 80 to the dollar, would drop much more versus the dollar if the euro continues to weaken. This is due to the extensive trading connections the euro has with India and other rising economies.
Additionally, the rupee has performed better versus the dollar than the euro because the RBI interfered in a way to keep the currency that way.