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Euro analysis: How could EUR/USD perform in a European recession?

By Piero Cingari

19:03, 8 November 2022

European economic contraction, euro coins with a down red arrow – Photo: Shutterstock

How might the euro fare if the eurozone were to shortly face a recession? Is the worst for the EUR/USD exchange rate already factored in, or may it fall further? How will the ECB strike a balance between a shrinking economy and increasing inflation?

Eurozone recession prospects have risen considerably in recent days and weeks and investors are wondering what the future holds for the single currency, which is currently trading at parity against the dollar. 

The most recent statements by top ECB officials appear to anticipate that the eurozone will experience a recession beginning in the fourth quarter of 2022 and lasting through the first quarter of 2023.

Historical data suggests that the euro tends to suffer during a Eurozone recession. In the last three recessions in Europe, the single currency did the worst between Q3 2011 and Q1 2013, when it lost 8.9%, and the best between Q4 2019 and Q2 2020, when it gained 2.5%.

Today's Eurozone macro conditions are quite peculiar and differ from previous recessions in that the ECB is not likely to decrease interest rates or increase QE as it has in the past.

However, if the US escapes an economic contraction while Europe does not, the growth gap might impose downward pressure on EUR/USD.

EUR/USD monthly chart since 1999 with recessions highlighted

EUR/USD monthly price chart 1999-2022, areas in grey indicate a Eurozone recession – Photo:, Source: Tradingview

Recession looms for the Euro Area

The most recent macroeconomic indicators for the Euro Area have already indicated a decline in economic activity, which is projected to enter a recession in the fourth quarter of this year.

The Eurozone economy grew 0.2% quarter on quarter in the three months to September 2022, following a 0.7% increase in the previous quarter, and marking the worst GDP quarterly growth rate since the recovery from Covid-19 limitations in Q2 2021.

Latest PMI surveys already reveal a contraction in the economic activity. With a reading of 47.3 in October 2022, the S&P Global Eurozone Composite PMI indicated private sector activity had fallen for the fourth consecutive month, the steepest loss since November 2020.

The S&P Global Eurozone Services PMI dropped to 48.6 in October 2022, indicating the third consecutive month of declining services activity. The Euro Area's economic confidence barometer decreased for the eighth consecutive month to 92.5 in October 2022, the lowest level since November 2020, as persistently high inflation, rising borrowing costs, and a worsening energy crisis dampened optimism about the region's economic outlook.

Inflationary pressures, meanwhile, continue to rise. Headline inflation in the Eurozone increased to a record 10.7% year-on-year in October, above predictions of 10.2% and remaining well above the bank's objective of 2%, exerting further pressure on the ECB which needs to strike a difficult balance between inflation and growth slowdown.

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How far can the ECB raise interest rates during a recession?

In October, the ECB raised three key interest rates by 75 basis points, as expected, marking the second increase of this kind in a row and bringing borrowing costs up to their highest level since the beginning of 2009. The ECB refinancing rate is now 2%, the deposit rate is 1.5%, and the marginal lending rate is 2.25%.

Recent comments from ECB officials indicate that the central bank will continue to raise interest rates, but the market is already questioning how far the ECB can go in the event of a recession.


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157.52 Price
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Spread 0.040


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Short position overnight fee -0.0036%
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Christine Lagarde, President of the European Central Bank, stated that the bank should continue to raise interest rates even if the likelihood of a Eurozone recession has grown.

The ECB's vice president, Louis De Guindos, recently predicted that both headline and core inflation would continue elevated into the coming year, and that the central bank would begin quantitative tightening in 2023 at the earliest.

Bundesbank’s President and ECB’s member Joachim Nagel said that the ECB shouldn't ease up on normalisation too soon, arguing that quantitative tightening should commence in early 2023.

As of November 8th, money markets are pricing in the ECB policy rate to peak at 3% in the summer of 2023, which would entail an increase in the deposit rate of little more than 150 basis points.

Performance of EUR/USD during past Eurozone recessions

 Q1 2008 - Q2 2009Q3 2011 - Q1 2013Q4 2019 - Q2 2020
EUR/USD open1.47431.45231.0982
EUR/USD close1.39651.29891.1246
EUR/USD % change-4.86%-8.93%+2.47%
EUR/USD max1.60381.51451.1496
EUR/USD min1.23291.18771.0636
EUR/USD average1.42551.34961.1042
EUR/USD max drawdown-30%-27.5%-8.1%
US recessionYESNOYES
ECB policy rate (bps change)-300-750
Fed policy rate (bps change)-4000-150

Data: Tradingview

The eurozone has experienced three recessions since the adoption of the euro. The first Eurozone recession started in the first quarter of 2008 and continued until the middle of 2009. The EUR/USD pair lost about 5% over this time, while the loss between the high and low during the timeframe was 30%. Interest rates were lowered by the ECB by 300 basis points, from 4% to 1%. The US was likewise in a recession at the time, and the Fed cut interest rates by 400 basis points between Q1 2008 and Q2 2009.

The sovereign debt crisis in Southern Europe triggered the second recession in the Eurozone, which began in the third quarter of 2011 and lasted until the first quarter of 2013. During this time, the EUR/USD exchange rate performed very poorly. The currency pair dropped about 9%, with a 28% decline between the period's peak and low. This time, there was no recession in the US. The ECB lowered interest rates from 1.75 percent to 1 percent, while the Fed held rates steady.

The third recession in the Eurozone began in Q4 2019 and lasted until Q2 2020. In this episode, the single currency gained 2.5% over the course of the term, with a maximum drawdown of only 8%. The United States was also in a recession, and while the European Central Bank remained on hold because interest rates had already reached the zero-lower bound, the Federal Reserve cut its key policy rate by 150 basis points, thus exerting pressure on the dollar.

Therefore, it is difficult to make inferences about how the euro may behave in an economic downturn by relying just on historical examples. The small sample size necessitates extreme caution when attempting to predict future trends based on past performance.

In the current environment, if a recession becomes practically inevitable for the eurozone, the ECB could continue to raise interest rates, so that could actually limit the euro's downside.

However, if the US escapes a recession, rising growth disparities between the two economies would be a negative factor for the EUR/USD.


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