For the first time since 2002, the dollar and euro exchange rates were equal on the global market on Tuesday, July 12. For several months, the European currency has been quickly depreciating compared to the American dollar. Experts attribute that to the general decline of the European economy following the imposition of sanctions against Russia. Thus, in the background of a disruption in trade relations with Moscow and a reduction in energy supplies, Europe’s inflation rate has reestablished its record high, and UN experts are not ruling out the possibility of a recession in a number of EU member states. At the same time, investors are concerned about the European Union’s new migration crisis and the member states’ huge debt obligations. What exactly is going on with €?
Is the Russo-Ukrainian War the fundamental cause for the euro’s depreciation? Given the rapid depreciation of the euro in recent months, one could conclude that Russian aggression is the primary cause of the European currency’s depreciation. International investors are converting their assets into dollars because a large-scale war is taking place right in Europe, and the European Union has announced unprecedented sanctions against the Russian Federation. Furthermore, Europe is breaking conventional ties with the Russian economy, and is facing an energy and, in particular, gas crisis that threatens to depreciate the European currency even more. Commodity prices have hit an all-time high as a result of anti-Russian sanctions, culminating in a record increase of inflation. That, in turn, reduced consumer demand and was one of the primary causes of a recession. In Europe, annual inflation has risen from 5.8 percent to 8.6 percent since the beginning of March. At the same time, according to experts, the index surpassed 20% in several countries in the region (Lithuania and Estonia). Additionally, the migration crisis is contributing to the economic decline, as the upkeep of newly arrived refugees puts an extra load on the European economy. That also accelerates inflation, putting pressure on ordinary Europeans and decreasing their purchasing power. Previously, UN analysts described the current scenario as a shock to the European economy. Because Europe is closer to the epicenter of the geopolitical crisis than the United States, the region’s economy suffers far more than American one. The euro’s depreciation relative to the dollar and other currencies raises the cost of imported goods for Europeans. As a result, experts predict even higher inflation in the coming months.
However, if one looks at the euro-dollar currency comparison chart for a slightly longer period of time, it is clearly visible that the gradual decline started in the first half of 2021, when the rate was even higher than 1.22. The cause for this tendency was concern among global financial market players that rising global inflation, as a result of the pandemic, would force the U.S Federal Reserve to raise interest rates sooner and more drastically than the European Central Bank. Further, the increase in interest rates by central banks leads to an increase in government bond yields. The United States, with its huge national debt, issues a large number of such securities, and they are considered the world’s most reliable investment asset. The prospect of a rise in interest rates caused capital to flow back into the dollar space, a process that has accelerated and intensified since the fall of 2021, when it became clear that, due to accelerating inflation, the U.S base interest rate would have to be raised much more substantially than one might have thought a year ago. This ever-increasing disparity in interest rates, and therefore in the yield of government bonds, between America and Europe likely became the primary cause for the euro’s depreciation and the strengthening of the U.S dollar. The war in Ukraine and its ramifications for the European economy probably just exacerbated that trend.
Further prospects are still uncertain, but it is unlikely that we will see any major fluctuations: excessive strengthening of the dollar is also undesirable for the U.S. A high exchange rate of the national currency is advantageous for countries that rely heavily on imports. From this perspective, the high dollar exchange rate is beneficial to the United States because it lowers the cost of products imported from Europe, China, Japan, and other countries around the world, thereby aiding in the battle against inflation, which is currently America’s main macroeconomic problem. On the other hand, imported products, which are becoming cheaper due to the weak currency, are hurting American manufacturers. Furthermore, a strong national currency undermines the interests of American exporters by making their products more expensive on the global market, reducing the worldwide competitiveness of vehicles, computers, microchips, food, etc. Accordingly, a low euro exchange rate benefits German, French, Italian, and other European exporters greatly. They must, however, create their products in their native country or the European Union and utilize exclusively European components. If they purchase components from outside the EU, the benefit will likely disappear.
Overall, the consequences for Europe will likely be severe. A weakening euro contributes to inflationary pressures by rising import costs, particularly for essential commodities. Moreover, unlike before, at the time of the economic decline, European manufacturers will not profit from increased export this time around.
References
Goodkind, N. (2022, July 11). The euro and the dollar are under half a penny away from parity for the first time in 20 years. CNN. Retrieved July 12, 2022, from https://www.cnn.com/2022/07/11/investing/euro-dollar-parity/index.html
Smith, E. (2022, July 7). Euro continues to slide toward dollar parity – and could fall even further. CNBC. Retrieved July 12, 2022, from https://www.cnbc.com/2022/07/07/euro-continues-to-slide-toward-dollar-parity-and-could-fall-even-further.html
Treeck, J. (2022, July 12). Euro falls to parity against the dollar, adding to inflation woes. POLITICO. Retrieved July 12, 2022, from https://www.politico.eu/article/euro-fall-parity-against-dollar-adding-inflation-woes/
By The European Institute for International Law and International Relations.
