The euro rally may be short-lived, according to some analysts, who say the recent surge against the dollar could lose steam by the summer.
Earlier this week the euro soared to a new six-month high against the dollar on the back of news that German GDP grew at 0.6% in the first quarter of the year.
The euro’s rise was boosted by the election of France’s new centre-right president, Emmanuel Macron, at the beginning of May.
The dollar has also been also hit by expectations that President Trump’s tax reform policy – which would see US corporation tax cut from 35% to 15% – will be kicked into the long grass.
US rate rise
Most experts believe the US Federal Reserve is still likely to raise interest rates in June, and that the fundamentals underlying US economy growth are stronger than the eurozone.
“Positive expectations for new French President Macron seem high, but there is uncertainty about the exact outcome of June’s Assembly elections and the passage of reforms through parliament. Political risks may have gone from being over-priced to under-priced, in our view,” said Paul Robson, senior currencies strategist at NatWest Markets.
“Growth has picked up, allowing the European Central Bank (ECB) to feel incrementally more confident that Consumer Price Index (CPI) can get close to target. But there is little sign that domestic price pressures are picking up, with unit labour costs growth particular weak. ECB president Mario Draghi continues to sound cautious on the economic outlook.”
NatWest Markets expects the EUR/USD rally to exhaust soon, with spot falling back into a 1.00-1.10 range for the summer.
However, Hann-Ju Ho, senior economist at Lloyds Bank Commercial Banking, said he believes the euro to be fundamentally undervalued against the dollar and expects it to rise to €1.15 in a year’s time.
But he added that a pullback in the short term “cannot be ruled out”.
“The recent euro rally has been driven by stronger economic data and reduced political risks in the eurozone, as well as the political storm in the US concerning the administration’s links to Russia,” he said.
“Despite improving growth dynamics in the eurozone, we expect the ECB to remain cautious about the outlook for inflation. Moreover, political risks have not completely disappeared by any stretch, with the next Greek bailout payment still not agreed and with Italian elections due by 2018.
“This all means that the trajectory towards ‘fair value’ will be gradual and potentially bumpy.”
Meanwhile specialists at Currency Solutions, one of Europe's leading non-bank providers of currency exchange payment services, said the eurozone had continued to reveal “surprisingly buoyant statistics” over the past few months, highlighted this week when the German measure of Investor confidence, the ifo Business Climate Index, rose to its highest level since 1991.
“Market participants point to the fact that Germany has become a powerful dual economy that now benefits from strong domestic demand and surging global trade. Unicredit reports the German economy is expected to grow by 2% and that this figure is now within reach,” they said.
“The euro has continued to make gains against the dollar this week and is expected to continue [to do so], despite a predicted interest rate rise from the Fed in mid June."