A Strong Euro Is A Headache For The ECB

Authored by Daniel Lacalle via The Mises Institute,

In recent weeks, the euro has been at its highest level, relative to the US dollar, that we've seen in the last three years. This is a movement that surprises when the European Central Bank is carrying out the most aggressive monetary expansion in the world after the Bank of Japan.

A strong euro is not a problem for any European citizen. European households keep a large part of their financial wealth in deposits. Additionally, a strong euro curbs inflation in imported products, mainly energy and food, generating a significant wealth effect.

If we look at the commodity index between January 6, 2017 and January 12, 2018, we can see that it has fallen by more than 12% in euros, while it is slightly up in US dollars. For the average European citizen, a stable or strong euro is a blessing, and one of the essential factors for the recovery of household disposable income.

A strong euro has not been a problem either for exports. Spain, for example, has increased by 53% the weight of exports in GDP in the last five years and Eurozone exports in 2017 marked a record, growing more than the average of global trade and with a record trade surplus, which is one of the decisive factors explaining the euro strength.

But a strong euro is bad news for central planners, indebted states and obsolete or low value-added sectors that need the hidden subsidy of devaluation. A strong euro destroys the ECB expectations of inflation, the increase in estimated profits of the low productivity sectors and puts in danger the debt reduction of inefficient states, which have been unable to reduce their deficits quickly enough. The ECB´s monetary policy, which becomes an assault on the savers and efficient sectors to subsidize the inefficient and indebted, does not work in a globalized world with open economies. And, ironically, that is good for European families, who see their wealth in deposits strengthen and stable disposable income because inflation is low.

Although the European Central Bank maintains ultra-low rates and monthly repurchases of 30,000 million euros, they are unable to devalue as they would like.

The European central planner must scratch its head thinking why. The US economy accelerates its growth, inflation expectations rise, the trade deficit is at decade-lows, the Federal Reserve is raising interest rates … And the US dollar does not strengthen. The main explanation lies in the trade surplus of China and the Eurozone. Central banks should know it is difficult to have rising trade profits and weakening currencies.

A weak dollar while the US economy grows as it is, means an opportunity for the Federal Reserve. It can raise rates and strengthen options ahead of a global slowdown without worrying about its currency. Will Powell use this opportunity?

The problem for the European Union is that if the ECB keeps trying to create inflation by decree it does not get it, and also creates greater imbalances. If it tries to contain the euro, it puts Europe in even worse risks, that may generate greater problems in the medium term. And if it the ECB tries to contain the increasing risks, the euro will revalue. This means goodbye to the ECB inflation expectations.

My estimates suggest that twelve consecutive months with the euro/US dollar above 1.21 would bring inflation expectations in the Eurozone to 1.3% compared to the 2% target, bring the Eurostoxx 100 earnings growth estimates from +8%, go to 0%, as low added-value exporters would suffer lower sales and banks see weaker margins due to low inflation and low rates.

Another factor is China, which tries to strengthen its global position by selling dollars. But China has increased its debt in 2017 by more than the UK’s GDP, and its trade surplus suffers from a weak US dollar and an artificially high yuan.

All this proves that currency wars are useless in open economies. Central planners and their batteries of Keynesian analysts are surprised that economies do not work as their Excel spreadsheets assume. Expected correlations and causations fail. But they do not admit their own mistakes. They do not attribute it to the fact that their correlations and estimates are obsolete and wrong, but that “not enough was done” and “it would have been worse” ( read Paul Romer ) and their religious faith in interventionism remains untouchable.

The ECB should be concerned about what it can really do, which is to monitor the risks of excess debt, bubbles, and disconnection between bond yields and reality. It should worry, for example, that the Greek two-year bond trades at a lower yield than the US 2-year bond, which is a monstrosity.

Do not worry. If it explodes, they will tell us that it was due to lack of regulation.


Yen Cross Mon, 02/26/2018 - 03:43 Permalink

 When all those hedged calls start covering, It's going to be ugly.

  If you buy U.S. equities, and the currency your borrowing is depreciating vs the base currency, you hedge it.

   When those euro carry trades start covering ???  They're already starting to cover.

  I wouldn't be surprised if the U.S. 10-year flirts with 3.00% this week.

Easyp Mon, 02/26/2018 - 03:44 Permalink

The Euro is not strong, currency markets are rigged ffs!  The only significant support for the Euro is the German Economy.  Europe does not have a Fort Knox, there is no gold supporting the paper its all make believe money.

the_river_fish Mon, 02/26/2018 - 03:49 Permalink

When will a weak dollar become a headache for the Fed?

The US dollar has fallen significantly against a basket of currencies in both 2017 and 2018 (so far).

And it has lost over 10% against 29 currencies (for 56 countries) over the past year.


A weaker currency for a nation that imports more than it exports means higher inflation which in turn (normally) means higher bond yields.

The US recorded a $53.1 billion trade deficit in December 2017, the highest trade deficit since October 2008. And bond yields continue to rise, looks like the USD is truly an outlier now.


Memedada An Shrubbery Mon, 02/26/2018 - 06:02 Permalink

US have been running with a huge deficit on its trade balance since the mid-1970s. And there’s nothing that will change this in the near (or far) future. US have been dismantled as a productive economy (now only producing war machines, bombs and weapons) and have been turned into an economy of pure (idiotic) consumption. That works well for the owners of US for a while and as long as the US  has the “Petro Dollar”-status (i.e. as long as there’s artificially created/forced a demand for US Dollars). US have kept an undeserved standard of living (only made possible by wars and Imperialism) for decades. That is soon going to end.

A weak US dollar is only good for export if you have a manufacturing economy and there’s anyone that wants to buy your products…US has neither.

In reply to by An Shrubbery

MagicMoney An Shrubbery Mon, 02/26/2018 - 11:32 Permalink

Actually, it doesn't. The Eurozone debunks this myth presently. Yes, technically a weaker currency makes exports cheaper because you are poorer but considering that you don't produce all raw materials at home a weaker currency is actually counterproductive. You think a country like Germany can be an autarkic industrial production country with no help from foreigners? If so, then why does it need an international trade, to begin with? Just to export?

The reason you export is so you can import. You know the reason why you have a job that does things for other people is so you can buy from other people. The reason why you want your currency to appreciate is that you can import. The market for goods expands with an appreciating currency this includes complementary goods that assist with production.

I see the nonsense has confused almost everybody.

A single good can literally have components and materials that are produced in different countries because goods ARE NOT EQUAL IN DISTRIBUTION.

The reason why the US is deindustrializing is that the US is expensive relative to other economies and lacks the structural economic integrity to support it i.e. savings and investment. Manufacturing doesn't come from nothing. You are assuming that a weaker dollar will magically bring about another industrial revolution. You got it wrong. It requires a pool of deferred consumption. The industrial revolution happened because of technology and savings not because the currency was cheap.


Eurozone real economy is productive. They have many businessmen and women who start new businesses and run them as a successor or new generation in France. They work in highly productive fields in Germany. These are not waiters and bartending jobs here.

The central bankers think inflated assets drive economic growth. That if we believe we are wealthy, then we can afford to go out and spend money and that is somehow growth. This is especially true in the US. This actually undermines the economy by fooling people into believing they are wealthy. The "Fool Effect" is what it should be called.

In reply to by An Shrubbery

CHX13 Mon, 02/26/2018 - 03:53 Permalink

"...that the Greek two-year bond trades at a lower yield than the US 2-year bond, which is a monstrosity."


Not at all, fiscally Greece is likely better off than the US with her (admitted) 20+ T debt and 100+ T unfunded liabilities.

CHX13 Mon, 02/26/2018 - 04:01 Permalink

Welt seems it's all backwards in this world that has been turned upside down. QE 2 and 3 strengthened the USD (due to inflows into the inflating debt and stocks and short covering) and now the Euro is strong while the ECB is expanding like there is no tomorrow. It's all due to their algos muppet milking.

GreatUncle CHX13 Mon, 02/26/2018 - 06:46 Permalink

ECB took over from where the US left off on expanding asset purchases /S

In a planned ring of CB's operating the global economy they are now all watching each others backs.

Once that conspiracy of CB's was in place the only thing left for ordinary people is global economic farming of populations.

In reply to by CHX13

Memedada An Shrubbery Mon, 02/26/2018 - 05:38 Permalink

I’ll start with some:

  1. Keynesian economists does not share the goals of the ECB – the ECB’s focus on inflation is derived of its ”monetarist” mandate (i.e. the Chicago School/Friedman, Hayek etc.). If it was “Keynesian” in any way it would not have supported the austerity policies forced down on its members by the Troika (The ECB, EU and IMF) but would rather have argued for an expansion of public financing in a time of crisis – for instance expanding public pensions, infrastructure projects, education, investing in the public health care sector, public wages, expanding public property etc. etc. It has done the opposite = handing public property to its private backers (the private banking sector) and forcing cuts in public expenditures to pay of fraudulent debts to the private banking sector. Greece being the prime example of this theft.
  2. ECB are not “central planners” but a servant of the private banking sector – it is a vehicle of transferring public funds to the private sector. It is basically a “theft-machine” used to grab public property and indebt the plebs to the private overlords (i.e. capitalists)
  3. The Mises Institute is one of many corporate propaganda institutions that are paid to keep the plebs bewildered/confused and uniformed. They only have one economic insight worth spending time on: the initial deflationary consequence of a debt-based economy (i.e. that more and more of the fiat is sucked into rent-payments and therefore not resulting in the otherwise expected price-inflation). But apart from that they’re just part of the corporate propaganda noise (the above article being a prime example)
  4. The private banking sector is the problem. The Mises never mentions this. The private banking sector is unethical – it is a farce that private entities have the privilege of having access to a printing press (legal counterfeiting) and that they by printing fiat ad nausea can indebt whole nations/people. Even the “national” banks are in most countries private institutions (like the FED in US). Regulation is the way forward – i.e. expropriating the private banking sector and all their ill-gotten gains of the last 100+ years (that is about 90 % of the economy)

In reply to by An Shrubbery

Fed-up with be… Mon, 02/26/2018 - 06:15 Permalink

When the FED MANDATE, ignoring the CORE INFLATION RUBBISH, is 2% goal-driven, this means that they WANT everything to be 20% more expensive every ten years.   So, what costs a buck today IS GOAL FED to be $1.20 in 2028.


WE ALL KNOW that REAL INFLATION is much higher.  They have been making noise about 2% being TOO LOW.



Last of the Mi… Mon, 02/26/2018 - 06:55 Permalink

A strong fiat is a problem for any CB. That's why they teach you it MUST be devalued in Econ 101. . . for the good of the country, trade and all. What they don't tell you is it brings on silent inflation with every unit of fiat printed and completely neutralizes the gains made by any middle class.