Markets

Emergency rate cuts are leaving currency experts bullish on the euro

Key Points
  • The pair traded at roughly $1.115 on Wednesday.
  • The euro was nearing a two-month high against the greenback, while the U.S. dollar lost some ground as currency traders weighed the latest move from the U.S. Federal Reserve.
  • The central bank announced a surprise rate cut of 50 basis points on Tuesday morning.
Joseph De Sciose | Getty Images

The euro is expected to strengthen against the U.S. dollar in the coming months, regardless of whether the European Central Bank (ECB) announces further stimulus measures.

The pair traded at roughly $1.115 on Wednesday. The euro was nearing a two-month high against the greenback, while the U.S. dollar lost some ground as currency traders weighed the latest move from the U.S. Federal Reserve. The central bank announced a surprise rate cut of 50 basis points on Tuesday morning to help contain the economic impact of the coronavirus. 

"That the ECB has far less room than the Fed to lower the short-term policy rate is obvious. U.S. short term rates therefore look to converge on those in Europe, which we think is enough to briefly push EUR/USD to 1.15 in the second quarter," Carsten Brzeski, chief economist at ING Germany said in a note Tuesday.

Market players have priced in a higher chance that the ECB will also cut rates next week, but its main interest rates are at a lower level compared to those in the U.S. The ECB's deposit rate — which is the interest that the central bank provides to financial institutions that deposit cash at the ECB — stands at -0.5. Following Tuesday's decision, the Fed's benchmark funds rate sits now between 1%-1.25%.

The Fed has tried to normalize policy at different times since the global financial crisis. Overall, the U.S. economy has managed to recover from the crisis at a much faster rate compared to the euro zone. As a result, the ECB has struggled to normalize, having stopped its massive bond-buying program in late 2018, only to then restart it less than a year later.

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"Even before the coronavirus, we expected the U.S. economy to decelerate further than what the consensus is expecting. And depending on whether financial markets stabilize or not, the Fed may also cut further. So, on the whole, we still expect the USD to depreciate further," Wolfgang Kiener, senior foreign exchange analyst at BayernLB, told CNBC Wednesday. 

Thus the dollar depreciation should contribute to a slightly stronger euro.

Roberto Mialich, foreign exchange strategist at UniCredit, shared a similar view. He told CNBC that an expected deterioration of the U.S. economy should lead to further rate cuts. U.S. analysts at Goldman Sachs have actually predicted two new rates cuts between now and the end of April.

Mialich from UniCredit expects the euro to be at $1.16 by the end of the year.

"Despite our rising EUR/USD profile into the end of the year, the critical thing to note is that we assume that EUR will remain structurally undervalued for another year," Kamal Sharma, G-10 foreign exchange strategy at Bank of America, told CNBC Wednesday.

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