Why is the euro losing strength against the dollar?
The euro is currently at its lowest level in the last 20 years against the US dollar. What are the reasons for this decline?
In 2008, 1 euro was exchanged for 1.58 dollar during the financial crisis. Today, in September 2022, 1 euro is trading for 0.97 dollars! What are the reasons for this?
Since its creation 20 years ago, the euro has always remained stronger than the US dollar. But for the past few months, our European currency has been falling against the greenback.
Last July, for the first time since its creation in 2002, the euro fell back below the symbolic 1 dollar mark. In just one year, the euro has experienced a net loss of more than 15% against the dollar!
Since then, we can observe that the euro has been going back and forth between this threshold and below, while going a little lower each time. Currently, at the time of writing, the euro/dollar exchange rate, also known as EUR/USD, is equal to 0.97.
But then, what are the causes of this decline?
The macroeconomic context
The coronavirus crisis has had an unprecedented impact on the world economy. This one was maintained under perfusion during almost two years via massive injections of liquidities on behalf of the central banks. Consequence? An inflation that exploded throughout Europe, even exceeding the 10% mark.
Rising key interest rates
To fight inflation, the European Central Bank (ECB) has decided to raise its key interest rates. Indeed, by increasing the cost of credit, the quantity of money in circulation will fall, leading to a slowdown in inflation. After an initial increase of 50 basis points in July 2022, the ECB's main interest rate is now 1.25%. Nevertheless, by seeking to lower prices, this may weigh on growth and unemployment.
The energy crisis
Since the beginning of the geopolitical conflict between Ukraine and Russia, Europe has decided to sanction Russia economically by breaking energy contracts. Russia was the main supplier of natural gas to our continent. Since then, a strong energy anxiety is taking hold in the whole Eurozone.
Why is this bad news?
We are tempted to think that this euro crash has no impact on our daily lives since we don't usually need to exchange our euros for dollars.
However, it is not that simple! This drop in the euro has a negative effect on the French economy. Most companies importing into France are invoiced in dollars. This is particularly true for the oil, gas and raw materials industries, which pay their invoices in dollars. This loss of power of the euro against the dollar therefore leads to an increase in import costs for companies.
In the end, it is households that suffer the most because companies raise prices to compensate for this EUR/USD differential. This accelerates inflation, which tends to erode our purchasing power day after day.
Can we consider that the euro is in crisis?
If we compare the USD to other fiat currencies such as the Yen, the Pound Sterling or the Canadian dollar, we can see that they are all falling as well. The decline of the Euro is not general, but rather the dollar is stronger than all other currencies in this time of deteriorating economic conditions.
The reason the greenback is becoming so powerful is simply because there is a sense of fear in the global economy. Inflation, the energy crisis, the Russo-Ukrainian conflict, central bank rate hikes, etc... are all reasons that point to a major economic crisis. However, when fear takes hold of investors, people tend to take refuge in safe havens such as gold or the US dollar.
Thus, although our European currency is experiencing an unprecedented decline in its value since its creation, we cannot (yet) consider that the euro is experiencing a monetary crisis.
What are the solutions?
The basis of investing is diversification: stock market, real estate, crypto, precious metals, commodities, etc... But many investors neglect currency diversification in their strategy. Thus, as a European, although we use the euro in everyday life, it is not aberrant to have a small part of its assets converted into U.S. dollars.
Another alternative would be to diversify into different assets, such as crypto-currencies. Bitcoin, as a store of value, offers a real escape route from the problems encountered with our traditional currencies. Ambrosia can help beginners acquire their first crypto-assets.
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