Yves Nosbusch


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Why is the euro finally falling?



After a long upward trend against the main currencies, the euro has finally depreciated – by more than 5% against the US dollar compared to its May peak. The euro has in fact appeared overvalued for months on the basis of macroeconomic fundamentals. The considerable appreciation since the autumn of 2012 was largely a result of renewed confidence and the return of international investors to the euro zone following the announcement during the summer of 2012 by the president of the European Central Bank (ECB) that the Frankfurt-based institution would do “whatever it takes” to safeguard the euro.


Exchange rate 

Source: Macrobond



This trend seems to have reversed over the course of the last few months. The question is why now? There would seem to be three main reasons.


Short-term interest rates

First, there was the historic decision by the ECB Governing Council to cut interest rates to record lows, and in particular to introduce a negative deposit rate. That move has led to a significant fall in the rates on the interbank market since the start of the summer, with the main interbank rate currently trading at levels close to zero. This movement has increased the gap between US and European rates, increasing the relative attractiveness of the dollar for short-term investments.


Growth outlook and evolution of monetary policy

In addition, economic activity in the euro zone has been more sluggish than what one might have hoped for just a few months ago. Second-quarter GDP and a number of leading indicators for the euro zone have proved disappointing over the last few weeks. An additional factor is the uncertainty surrounding the evolution of the crisis in Ukraine, to which Europe has greater exposure than the United States. In contrast, activity seems to be picking up faster in the United States. In particular there has been a clear improvement in the labour market. As a result, markets are expecting monetary policy to return to normal more quickly, and key interest rates to start rising earlier, in the United States than in the euro zone. Those expectations were reinforced by the statements from Mario Draghi and Janet Yellen at the recent meeting of central bankers in Jackson Hole.



These considerations would appear to have led to a change in market sentiment. The BNP Paribas “Positioning Analysis” indicator suggests that the main market players have on average been selling the euro against the dollar over the last few weeks.


From a macroeconomic standpoint, the depreciation of the euro is a welcome change. It should stimulate exports of European products at a time when domestic demand remains too low. By increasing the price of imports, it should also moderate, in a mechanical way, the downward trend in inflation observed since 2012. This worrying phenomenon of disinflation is a continuing source of concern for the ECB.



Article written on 2 September 2014. 

Yves Nosbusch

Chief Economist

BGL BNP Paribas