The euro’s plunge against the dollar, sparked by the war in Ukraine and mounting risks to the EU economy, has brought the two currencies to par for the first time in two decades.
The European single currency fell to $0.9952 on Thursday – a level not seen since late 2002, the year of its official launch.
However, traders believe the euro could rally if it clears several hurdles in the coming months.
The first thing to overcome is to avoid the risk of a halt in Russian gas supplies to Europe, which would lead to an increase in electricity prices and force eurozone countries to curtail some industrial activities.
“If gas flows from Russia normalize or at least stop falling after maintenance work on Nord Stream 1 ends next week, it should ease market fears of an imminent gas crisis in Europe,” Esther Reichelt, an analyst at Commerzbank, told AFP.
After Russian gas giant Gazprom warned it could not guarantee the pipeline would work properly, European countries fear Moscow will permanently halt and pressure supplies for technical reasons.
French President Emmanuel Macron even said Thursday that Russia uses energy “as a weapon of war.”
If Nord Stream 1 “doesn’t turn back on, the euro will fall as the economic shockwaves will be felt across the globe as the European energy crisis could very well trigger a recession,” warned Stephen Innes, analyst at SPI Asset Management.
– ECB wake-up call –
“A recession would inevitably mean that the market would become even more concerned about fragmentation risks in the eurozone,” added Jane Foley, FX specialist at Rabobank.
Like other central banks, the European Central Bank (ECB) tries to avoid stalling the economy by raising interest rates too much.
But it also has to worry about possible fragmentation of the debt market with wide differences in lending rates across the euro zone.
The ECB has so far maintained ultra-loose monetary policy to support the economy, while the US Federal Reserve has instead hiked interest rates and promises to keep doing so to curb inflation.
It will announce its monetary policy decision on Thursday and has indicated it will hike rates for the first time in 11 years.
“If the ECB aims to give a boost to the euro, it will need to issue a 50 basis point hike in July and/or signal 75 basis points in sight for September,” S&P analysts said in a note.
“Faster policy adjustments now would help anchor inflation expectations and reduce the risk that tighter policies will be needed later,” they added.
– Fed slowdown –
For the economists from Berenberg, the fall in the euro is more likely to be due to the strength of the dollar, which “has appreciated sharply since mid-2021 compared to a broad basket of currencies”.
The dollar has benefited from the Fed’s tightening of monetary policy as it seeks to rein in inflation, which hit new record highs in June.
“Markets are speculating that the Fed could hike rates by 100bps instead of 75bps at its next meeting on July 27,” Berenberg said.
“If so, this could strengthen the dollar further.”
UniCredit added: “Towards the end of the year, prospects for falling inflation and more balanced messages from central banks as policy rates approach cyclical peaks should support a return in risk appetite and calm USD demand.”
Should that happen, the euro could drift away from parity in the final months of 2022, they say.
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