Euro Struggles At 5-Year Lows

05/02/2022

1 minute read

2022.05.02 19:11

The EUR/USD suffered a dismal week, plunging 2.33%. The euro broke below the 1.05 line on Thursday but has managed to recover.

The ECB doesn’t meet until June, but policymakers will be closely monitoring eurozone inflation, which continues to climb. It was only a few months ago that ECB President Lagarde was dismissive about rising inflation, saying that it was a transient development (readers will recall the exact same stance from Fed Chair Powell).

We certainly won’t be hearing the ‘T” word anymore with regard to eurozone inflation, which hit a massive 7.5% in April. The ECB may not stay in sync with the pace of tightening by the Fed and other major central banks, but the ECB is signaling that the issue is not whether to hike but when and by how much. There are hawkish voices within the ECB calling for a June hike, but September could be the month to circle in the calendar, which will give policymakers additional data to review before making any moves.

In the case of the Fed, tighter rates are a given, with spiraling inflation, a tight labor market, and robust growth. It’s a trickier scenario for the ECB, as eurozone growth has not been as strong, and the Ukraine war and Russian sanctions have dampened economic growth. There are concerns about stagflation, and these risks will rise as the ECB raises rates. We can expect the ECB to tighten policy in the coming months, but at a much slower pace than the Fed.

The FOMC meets on Wednesday, and a half-point hike is practically a done deal. The Fed has hinted at additional half-point rates in June and July, and some analysts are even predicting super-supersize hikes of 0.75%, which hasn’t happened since 1994. This will be a significant move, as the Fed hasn’t delivered such a substantial increase in 20 years.

The Fed is in full throttle trying to catch up to the inflation curve, and this widening of the US/Europe rate differential could push the euro to 1.03 and perhaps even to parity in the coming months.