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The Euro at Parity with the US Dollar for the First Time in 20 Years

🕑 4 min By Leo Paggen

1. A decreasing trend in the euro’s value against other major currencies

Fourteen years ago, in 2008, the euro peaked at its highest value since its creation against the US dollar, roughly $1.6 for one euro. Last year, in 2021, the euro was still approximately equal to 1.2 US dollars, a sharp decrease from its 2008 value. In reality the euro’s value against the US dollar has seen a steady decreasing trend since July 2008, with few ups and downs, before eventually reaching parity with the US dollar for the first time in 20 years in July of 2022. Although reasons for the depreciation of the euro against other major currencies may not be immediately obvious, consequences of the war between Ukraine and Russia are believed to affect the euro’s value.

2. A difficult dilemma for Europe

The war between Russia and Ukraine has affected the world’s economy in unprecedented ways . While it is true the entire world economy is being troubled by the war, the war does not have the same consequences on both Europe and the United States.

While Europe’s energy imports have been disturbed by the war, making energy prices rise unprecedently, the United States, which doesn’t depend on Russia for energy, has been less affected by the turmoil in the energy market. The European Area is thus more vulnerable to rising inflation due to rising energy prices than the US is. In theory, a solution to counter rising inflation is for the Central Banks of both Europe and the United States to start raising their interest rates quickly, which is much more easily accomplished in the United States than in Europe for a major reason; being that the eurozone is suffering from not only high inflation, but also low growth. A reason for the dollar gaining value against the euro is that due to the rise of interest rates in the United States, investors are more attracted to investing there rather than doing so in Europe, which makes the dollar stronger . Although a weaker euro might theoretically stimulate the eurozone by allowing for more competitiveness in its exports, a weaker euro also means importing from outside the eurozone is also more expensive, which is undesirable given the eurozone’s catastrophically high inflation numbers. The European Central Bank (ECB) is therefore facing a very difficult dilemma; they must counter inflation while also guaranteeing their citizens a rise in their purchasing power which has decreased due to the extreme inflation.

3. Forecasts on Europe’s decision

While the Federal Reserve has the ability to increase interest rates dramatically to counter inflation in the United States, the ECB has to be more cautious in doing so. Despite these concerns, many experts agree that the recent inflation numbers in the eurozone are alarming and are an urgent matter that needs to be resolved as quickly as possible.

The ECB has therefore been “hawkish” and has raised its interest rates up by 0.75% from a previous rise of 0.5% in July. This decision might not be enough to support the euro, as investors are concerned whether the eurozone is actually going to be able to sustain further hikes in interest rates, because as stated previously, rising interest rates can be good to boost investment, but in a time where European citizens are struggling with the increasing costs of living, growth might not be the consequence of a hike in the European interest rates. According to the ECB itself, more hikes in the interest rate are to be expected, but whether this will be enough to convince the market that the eurozone has a sustainable plan to reduce inflation while avoiding a recession is unsure as of now.

4. Conclusions

The decline in the value of the euro has caused it to reach, and even fall below parity with the US dollar this year. Reasons for this are consequences of the ongoing Russia-Ukraine war, which is making energy unaffordable, which in turn is causing inflation to dangerously spiral upwards, hence increasing the costs of living of citizens of Europe. As a response to rising inflation, the ECB can do like its American counterpart and hike interest rates, although this could slow down an already struggling growth in Europe by making borrowing more expensive in Europe. Although the ECB has plans to raise the interest rates even more, whether that decision will be enough to support the euro is still unsure.

Sources: ING, Bloomberg, The Wall Street Journal, Al Jazeera

Written by Leo Paggen

September 2022

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