CoinBureau Report:
On June 6, the European Central Bank (ECB) announced its decision to cut the three major interest rates by 25 basis points for the first time in five years.
Ahead of the Fed, the ECB reduced its main refinancing rate from 4.50% to 4.25%. Traditionally, the Fed is expected to follow suit with rate cuts.
Simultaneously, the marginal lending facility rate and the deposit facility rate were lowered to 4.50% and 3.75%, respectively. But why now, and what does this mean for the Eurozone?
More Context
Lest we forget, central banks globally raised rates to control the high inflation caused by the pandemic and the energy shockwaves from Russia’s aggression in Ukraine.
As a result, economies dependent on the euro, as well as the United States and the United Kingdom, saw skyrocketing prices, eroding purchasing power and prompting investors to turn to safe-haven assets like gold or silver.
Since then, there has been significant improvement. While some prices continue to rise, especially in the service sector, overall inflation has eased, offering breathing room to businesses and reigniting investor interest in alternative assets.
Despite progress by the ECB in controlling inflation and approaching its 2% target, it remains cautious about further rate cuts. This stance is viewed by many as hawkish, as the bank remains committed to “keeping rates anchored when necessary,” while pursuing a “data-dependent meeting-by-meeting approach.”
Direct Impact on the Euro
The slight divergence in monetary policies between the U.S. and Europe has weakened the euro slightly. With the single currency strengthening against the dollar from 1.062 to 1.070 between mid-April and mid-June, considering asynchronous monetary policies between the ECB and the Fed, the euro may face further depreciation.
Why is the Euro Weak?
There are at least three reasons behind the weakness of the single currency. Firstly, with the Ukraine war dragging on for nearly two years, energy costs have hit historic highs, increasing the necessity for European production and exports, particularly in energy, which has never been more evident than now.
For instance, unlike the U.S., which is both the world’s largest energy producer and consumer, the EU has yet to catch up in production. The EU still largely relies on Russian fossil fuels, suffering significantly more in high energy prices compared to the U.S., which is known to offset purchasing power losses as energy consumers and gains as energy producers.
It may take quite some time for Europe to achieve its green energy goals and break free from fossil fuel dependencies. This leads to the second reason — the strengthening dollar.
The Fed has already raised key rates three times this year. A large influx of cash is flowing into the U.S. economy, benefiting from higher rates. According to the ancient adage “the higher the rate, the greater the demand for currency,” the dollar appreciates due to increased demand.
The third reason is more related to market reactions to the current economic environment. As mentioned earlier, in uncertain times, investors tend to shift their focus to what they perceive as safe havens.
Currently, the dollar is the only global currency, making it the universal medium of exchange for commodities and services worldwide. This helps it be seen as a safe haven, thereby attracting investors.
However, caution is warranted, and investors should continue to monitor market conditions and evaluate risks based on fundamental and technical data at hand.
Are there any Positive Aspects to the Weak Euro?
The weaker euro has both disadvantages and significant advantages. The first and most important advantage is the increase in export costs. European products priced in dollars become more affordable in the U.S., thereby increasing demand for EU goods rather than similar, more expensive locally produced products.
Tilting towards EU economies, increased export demand will encourage European companies to produce more goods and services. By doing so, they create job opportunities, employ more labor, and increase supply chains. Thus, higher exports have a crucial impact on the domestic economy, enabling its expansion.
However, the positive impact of a weaker single currency is offset by negative aspects.
Negative Impact of the Weak Euro
The flip side of increased exports is the rising cost of imports paid in dollars. This applies not only to final goods but also to dollar-denominated raw materials, meaning EU consumers will pay more for imported goods from the U.S.
This gradually erodes consumer confidence and damages demand. Therefore, European companies need to be prepared to address declining demand that could lead to economic downturn.
On the other hand, rising import prices may also have a positive impact on eurozone businesses. As U.S. products become more expensive, Europeans may eventually turn to similar European products offering better value. This stabilizes production and employment in the eurozone.
Nevertheless, the Fed’s delay in cutting rates will only widen the gap between key rates in the EU and the U.S.
Meanwhile, traders and investors’ primary gains lie in understanding market and macroeconomic events such as the monetary policy decisions of the ECB and the Fed. Timely awareness of key economic events and data releases can help them make wiser decisions during turbulent periods.
Author: Marios Chailis, CMO Libertex Group
About Libertex
As part of the Libertex Group, Libertex is an online broker offering tradable contracts for difference (CFDs) with underlying assets including commodities, forex, ETFs, cryptocurrencies, and more. Libertex also provides real estate investment opportunities.
Over the years, Libertex has garnered several prestigious awards and recognitions, including “Global CFD Trading Provider of the Year” (PAN Finance awards, 2024) and “Best Trading Experience” (Ultimate Fintech awards, 2023). Libertex is the official online trading partner of Bayern Munich Football Club, marking a dynamic and exciting partnership.
Since its establishment in 1997, the Libertex Group has grown into a robust financial technology giant with branches in various jurisdictions, serving millions of clients worldwide.
In Europe, the Libertex trading platform is operated by Indication Investments Ltd., a Cyprus Investment Firm (CIF) regulated by the Cyprus Securities and Exchange Commission (CySEC) under CIF license number 164/12.