Why has the euro fallen to $1 and what does it mean for the rupee? The euro’s decline in value relative to the dollar indicates that investors are shifting funds away from the Eurozone and toward the US.
The euro and the US dollar were equal on Tuesday. In other words, the value of the exchange rate changed so that one euro equaled one dollar. Only twice since 2002 has the euro dropped to this level against the dollar (see chart below). The euro’s decline in value relative to the dollar indicates that investors are shifting funds away from the Eurozone and toward the US.
Why is the value of the euro declining against the dollar?
In general, since the beginning of 2008, the euro has been losing strength against the dollar. However, the reduction has been substantial since the beginning of 2021. The energy crisis after Russia’s conflict 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 the economics, the Covid-19 pandemic and the financial measures used to combat it had left the eurozone’s economy vulnerable to record high inflation. Russia’s intrusion of Ukraine and the ensuing restriction on Russian energy have left the European economies totally exposed at this crucial juncture.
Europe was entirely reliant on Russian oil and gas, and the enormous rise in energy prices has not only made life more expensive for the average person, but it has also caused investors to wonder whether they should make additional investments in the Eurozone.
The economies of the Eurozone are increasingly dependent on imports. For instance, the largest economy in the Eurozone, Germany, recorded its first trade deficit since 1991 in May. Companies would be better served by moving their headquarters to the US, which has much greater energy independence.
Consequently, the Eurozone is faring much worse, despite the fact that there is a fair likelihood that the US economy is slowing down and possibly approaching a recession. And this has established the economic justification for why money is leaving the Eurozone and moving to the US. This change in preference is effectively indicated by the euro’s persistent decline against the dollar.
The European Central Bank’s (ECB) response in terms of monetary policy is the second factor. It differs significantly from the US Fed’s approach, which has made it abundantly clear that it would not relent until US inflation, which is currently at multi-decade highs, returns to the target rate of 2%.
So, even if it causes a recession, the Fed is rapidly hiking interest rates. The ECB has not changed, in comparison. The ECB has not raised rates in response to the possibility that doing so (in order to manage inflation) could stifle the economic recovery. As a result, money has begun to migrate to the US for investment purposes because the US provides higher yields.
Why is the dollar rising despite the US economy being in recession?
The US dollar continues to be the safest investment option for international investors, and economic news from other countries is generally more negative than that from the US. The US dollar is rising 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 against the euro since the beginning of 2022 is one example. It started off at about 90 and is currently around 80 to the euro.
Does that imply that a weaker euro will benefit the rupee?
The rupee has recently strengthened significantly, making travel to Europe for vacations for Indians more affordable. Anindya Banerjee, Vice President of Currency Derivatives & Interest Rate Derivatives at Kotak Securities Ltd, issued a warning: “if the euro continues to stay weak and trend below parity, it will also take the rupee down with it.”
In other words, the rupee, which is presently only a whisker away from 80 to the dollar, will drop even more versus the dollar if the euro continues to fall. This is due to the extensive trading connections the euro has with India and other emerging economies.
Banerjee claimed that the rupee has performed better versus the dollar than the euro because the RBI has interfered to keep the rupee that way.