For firms buying from suppliers in Europe, the rise of the Euro this year must have caused acute problems. Or, for those with contracts buying from European suppliers in dollars, those contracts will adjust sharply come renegotiation, as current exchange rates are applied to new contracts.
The future direction of the world’s second-most-widely-used currency is of interest to many firms that directly or indirectly are a part of extended global supply chains.
Europe, too, is perplexed by the rise of the Euro. The dollar has declined relative to the Euro by more than 13% this year, driven by tensions with North Korea and dysfunction in Washington, according to The New York Times.
But investor appetite for the Euro has been fueled by more than tensions over North Korea.
Whereas the Euro is seen as a relative safe haven compared to the dollar, there is also a growing realization the Trump administration may not be able to deliver on tax reforms promised during his campaign at the end of last year. As a result, the relatively better-performing European markets may offer investment opportunities not previously available.
Nations Push Back Against Quantitative Easing
Many in northern Europe — Germany, in particular — are pushing for an end to quantitative easing (QE) for fear that it is stimulating asset bubbles.
The Telegraph reported comments by Deutsche Bank chief John Cryan last week saying property prices in advanced economies had hit record levels. In the same speech, Cryan urged European policymakers to start tapering relief of the Eurozone’s €60 billion ($72 billion) per month stimulus program sooner rather than later.
On the other hand, policymakers are worried about the impact of bringing money printing to an end and postponed a decision this month because of the recent weakness of the dollar. Any firm decision to taper or cease QE would result in the Euro strengthening further, potentially choking off Europe’s nascent recovery (during which growth has returned for the first time this year since the financial crisis).
Interest Rates Still Low
Inflation remains stubbornly low. At 1.5% last month, they show little prospect of hitting the 2% target this side of 2019, The New York Times reports.
The Federal Reserve began raising interest rates at the end of 2015, but the European Central Bank (ECB) is reluctant to do anything that could undermine what it still sees as a fragile recovery.
The absence of rising headline inflation figures to create an imperative — policymakers are largely turning a blind eye to asset price inflation for the time being, preferring to sweat over the rise in the Euro.
Indeed, Jörg Krämer, the chief economist at Commerzbank in Frankfurt, said as much in a recent note to clients, saying the pace of Euro strength is driving the ECB’s QE policy right now. Commerzbank is not expecting the Euro to continue to strengthen — and they may well be right.
If investors think there is a chance Congress will support the Trump administration’s tax reform that would allow businesses like Google and Apple to repatriate profits held overseas, the exchange rate landscape would transform overnight.
Half of what has been estimated as up to $1 trillion dollars is held in currencies other than U.S. dollars, so the demand for dollars would be immense, as would the boost to the U.S. economy if funds were repatriated and invested. Of course, that is the administration’s intent; for now, Washington seems in such a logjam that investors are discounting the prospects of such legislation being passed anytime soon.
The Euro, therefore, is being carried by its own relatively optimistic narrative: decent growth, low inflation and a sense of stability and, Brexit excepted, harmony not seen since the financial crisis. It’s hard to see the Euro weakening this year, but further direction may come in next month’s meeting of the ECB.
MetalMiner is expecting any decision to taper QE to be kicked further down the road, putting a lid on further rises.
Euro strength is today’s problem, asset prices are tomorrow’s — that seems to be the order of the day.