Euro-dollar has hit the floor, but don’t expect a bounce

We expect the euro to stabilise against the dollar and trade around its current levels over the next year. Economic fundamentals point to some support to the currency after the sharp, recent depreciation, but heightened uncertainty continues to pose a key downside risk.

What you will learn:

• The euro’s recent depreciation reflects both external and domestic factors. Trump’s election increased uncertainty, which is typically dollar-positive, and widened interest rate differentials due to expectations of looser fiscal policy in the US. And an unfavourable growth gap reduced the eurozone’s attractiveness for international investors.
• Economic fundamentals point to no further weakening. We expect the real bond yield differential will become less negative and stronger growth should attract capital flows into the eurozone. However, the euro will struggle to meaningfully recover due to headwinds dissipating only gradually and a persistent productivity gap versus the US.
• Still, exchange rates are not solely driven by fundamentals. For instance, if we were to see a rise in risk perception, blanket tariffs on the EU, renewed distress in energy markets, or a worsening in France’s political turmoil, the euro would likely depreciate.