High euro a threat to growth
On Monday, the euro reached a record high against the dollar at $1.2987. The euro rose 1.4% just in the past one week. Partly behind the fall of the dollar was the Nov 2 election of President Bush and the assumed effect of his presidency on the two main pillars weighing down the US economy; the swelling US trade and budget deficits.
In fact, the dollar has depreciated by 24% since Bush first took office in January 2001, as measured by the New York Board of Trade's Dollar Index based on a basket of six currencies.
There is a concern that Bush will enact a proposal to make the tax cuts passed in his first term permanent and obtain funding for military operations in
Iraq thereby widening the budget deficit. The election also sent a message that politics will not change now and the geopolitical tensions will continue or even worsen.
The dollar was expected to gain some support from the US Federal Reserve's decision to raise interest rates and possibly make another increase in December. The FED decision is expected to be accompanied by a positive report on the US economy bolstering the dollar. There are also pre-set orders to sell the euro if it declines which may help ease the euro this week, along with tough talk from European officials.
However, most economists think these factors will only provide short term support of the dollar, but in the long term the euro is set to rise further against the dollar. Deutsche Bank has predicted the dollar will trade at $1.30 in the next three months. An economist at Asahi Life Asset Management said that figures coming out this week for the US trade gap in September will push the dollar down again and the euro will reach $1.30 by next week. A large deficit will mean more dollars need to be converted to other currencies to pay for imports. The economist noted that the near-record deficit is exactly the reason behind the dollar's weakness.
Europe is not too happy about the situation and harsh comments from bankers there helped relieve the euro slightly yesterday. Both the European Central Bank President Jean-Claude Trichet and council member Guy Quaden agreed that it would be “undesirable if the euro's appreciation continues and even less so should it accelerate.”
The problem for
Europe is the higher euro could create real problems for its growth outlook, according to economists. Already indicators from the Eurozone are expected to show that the pace of economic growth slowed in the third quarter. Economists expect eurozone quarterly growth slowed to 0.4% in Q3 down from 0.5% in Q2 and 0.7% in Q1. In
Germany,
Europe's largest economy, an investor confidence index is expected to fall to its lowest point in more than a year. A European economist said that third-quarter figures should show a marked slowdown from the first quarter expansion. He also noted that
Europe is not in a traditional cyclical recovery because of external constraints such as the high euro and oil prices.