While it’s easy to think America doesn’t need other nations across the pond to keep our economy afloat, that’s a false assumption. It’s important that other country’s economies do well too so as to prop up our own.
That’s why it’s important to periodically check on the economic state of Europe. Since the start of the year, things are mostly unchanged, but as Britain’s position becomes clearer and Trump settles into his new office, those in power are contemplating their moves more carefully.
In the case of European currency, things are weird, with a chance to get stranger yet. Let’s look at the primary angles and see just what is going on with the Euro.
Elections
Two major votes in the past year have already had a major impact on the Euro. The Brexit decision was an obvious detractor, as it solidified the Union’s loss of its second largest economy. Surprisingly, Trump’s election actually had a larger and longer lasting impact on the currency.
Since November, it has dropped roughly four percent against the USD, and it currently is valued at $1.06 to the dollar. The impact that elections can have on currency are not surprising, but they are the major component of uncertainty in Europe right now. Germany, France and the Netherlands are all holding major elections in 2017, and the results of those votes could completely reshape the EU.
Most eyes are on France right now, where the populist candidate, Marine Le Pen is holding a strong lead in the polls. If elected, many presume that she could lead the country to leave the EU or at least push for a currency referendum.
Expectations
If you follow the newsletter, then the state of European elections isn’t news to you. What we haven’t discussed so far is that the election year is expected to further sink the value of the Euro regardless of who wins.
Current projections show that until all three elections are finalized, the Euro could drop as low as $1.03 against the Greenback just from the sheer uncertainty tied to these important votes.
If the rise of populism continues the trend that began in 2016, then those low estimates will end up looking optimistic. It is very unlikely that a significant populist shift in France or Germany could do anything other than tank the Euro, and the Union would be obliged to reevaluate currency altogether. As things stand, this is a very possible, if not likely scenario. Because of that, the chief European economists want to make proactive moves.
Possible Actions
There are a few things Europe can legally do to try and influence their currency without resorting to outright manipulation. One of the most popular plans is to push the Euro down a little farther so they can hedge currency investments against the USD and Yen to mitigate potential losses.
This will likely be a common practice for currency investors, and it is one of the most tempting options. The other popular approach is to assume that populists will lose and continue investing and trading as though there were no risk at all. The potential downside to this approach is obvious, but many European economists are pushing the notion anyways.
Dangerous Waters
The main issue comes with the temptation to devalue the Euro. Certain amounts of devaluing are common and acceptable, but if the Union gets too aggressive, they can easily cross lines that might constitute harmful currency manipulation. In some climates they could get away with it, but with Trump in charge of the U.S., that likelihood drops.
Based on his history, you can be assured that he will call the EU out immediately if they cross that line. When you consider how he wants to renegotiate the bulk of America’s trade agreements, you can safely assume that he would use currency manipulation against Europe in negotiation.
While this is already a serious potential issue, it gets worse when you consider that other major trade partners could side with the U.S. to get more favorable agreements out of Europe.
There are a lot of “what ifs” being thrown around, but the main points are pretty simple. The Euro is sliding, and it will impact imports and exports out of the EU. The risk of further destabilization is real and serious, and while the long-term outcomes are hard to predict, a populist win would certainly drop the currency value quickly.
The most reasonable course of action for Europe at this point is to let the EU sink and hedge their currency investments, but they have a careful line to toe, because there is no doubt that Donald Trump will be quick to pounce if they unfairly manipulate their currency.
How does this affect you? If you enjoy playing in currency trades, the volatility offers a high risk/reward scenario that will give you ample chance to make or lose a lot of money this year. If you prefer to be more cautious, then at least for now, follow the crowd and stick to the USD.
Regards,
Ethan Warrick
Editor
Wealth Authority
