A fall of about 7% in the euro against the dollar this year breathes new life into a two-decade-old question on Wall Street: Will currencies finally reach parity this year?
The euro fell to about $1,035 earlier this month, below the $1.137 level it ended last year. It ended Thursday at about $1,059, putting it just 5.5% away from reaching parity, or equivalent value to the dollar.
The last time the euro and dollar reached parity was at the end of 2002, although Europe’s single currency has crossed the threshold in the more recent past. In late 2016, the euro rose to parity after former President Donald Trump won the US presidential election and as traders anticipated a series of rate hikes by the Federal Reserve. However, those bets unraveled in 2017 after faster-than-expected growth in Europe.
Some market observers say the possibility of parity is realistic this time around as traders contend with an aggressive Fed, the ripple effects in Europe from Russia’s war in Ukraine and an economic slowdown in China. Many economists and investors expect that higher energy prices and supply disruptions caused by the war will dampen growth in Europe. Any form of declining demand in China for European goods could also weigh heavily on the region.
Meanwhile, the Fed has embarked on an aggressive campaign to raise interest rates, further boosting the dollar, which has emerged as one of the key havens for investors this year. Higher interest rates typically support the dollar by making U.S. assets more attractive to investors seeking yield. Meanwhile, the European Central Bank is expected to lag the Fed in tightening monetary policy.
Those factors have caused the euro and dollar to fluctuate wildly this year – including Thursday, when the euro gained 1.2% against the dollar, its biggest jump in more than two months.
Still, according to Dow Jones Market Data, the euro is off to its worst start to a year since 2015. That has forced some analysts and investors to adjust parity expectations in recent weeks.
“For us, the chance of [the euro and dollar] parity has increased from 30% at the start of the war in Ukraine to 75% now,” said Viraj Patel, global macro strategist for Vanda Research. “There is very little that small ECB rate hikes can do to [euro’s] reject.”
At the end of 2002, the euro and the dollar last reached parity.
Photo:
shahzaib akber/Shutterstock
Considered a psychological level for the currency pair, euro-dollar parity also has important implications for local economies and consumer wallets. For Americans traveling abroad this summer, a weak euro means their dollars could go further.
For European economies, a weak euro makes imports more expensive, which could lead to higher local prices. That could put even more pressure on economies at a time when European countries—and others around the world—are already experiencing rising inflation.
“Broadly speaking, a weaker currency has an impact on accelerating inflation,” said Jane Foley, head of currency strategy at Rabobank. But, she noted, “It’s not necessarily the levels [at which the currencies are trading] that make things difficult. It’s the uncertainty and volatility – the pace at which we move – that makes it difficult for policymakers to measure things like inflation.”
A weaker euro may also make euro-denominated assets, such as equities, less attractive. The benchmark Stoxx Europe 600 index is down 11% this year, less than the 18% drop in the S&P 500. But in dollar terms, the US index is neck-and-neck.
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Investors’ jitters were evident elsewhere: Earlier this month, the differential between benchmark Italian and German government bond yields jumped to its highest level in two years. On Thursday, that spread fluctuated around 1.96 percentage points. A widening gap between Italian and German interest rates is commonly seen as a barometer of financial stress in the region.
Not all market watchers are convinced that the euro-dollar parity is likely. The currency has yet to plunge below what is considered a key technical level for the euro – the intraday level of $1,034 the euro fell to in early 2017.
“There’s some technical psychology in it,” said Paul Ciana, head of FX technical strategy at Bank of America†
noting that the euro bounced higher after falling last week to its intraday low of around $1,035. He noted, however, “maybe this time” [parity] actually happens because people are less positioned for it.”
Recent data from the Commodity Futures Trading Commission shows that leveraged funds had a modest net short position against the euro last week, but are less bearish against the currency than last year.
“When I looked at euro positions, the first thing that came to mind was, ‘Oh, there’s still more to come,'” said Ms Foley, who has a forecast of $1.03 for the euro in the coming months.
“I think if we move into an environment where these risks are compounding for the eurozone – largely due to energy security but also the slowdown in China – there’s a possibility that those hard bulls could give up,” she said.
The US dollar saw its biggest appreciation since 2015 in 2021. That’s good for many US consumers, but it could also put a dent in stocks and the US economy. Photo illustration: Sebastian Vega/WSJ
Write to Caitlin McCabe at caitlin.mccabe@wsj.com
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