By James Cole
The past two weeks have seen the Euro weakening against the Dollar in a trend which looks set to continue.
The rise of US 10 year interest rates towards 3% has encouraged markets to worry about the relative value of keeping funds invested in emerging markets and perceived less credit worthy G10 countries versus investing money in the US. This is not to say the US is necessarily a ‘good credit’ but the fact is the US can be thought of as the ‘least bad’ option – it does at least have the political construct in place to fix its debt issues (if not the political will). Europe on the other hand, will continue to avoid making the tough political decisions until the protective cloak of the ECB’s Mario Draghi ‘s ‘we will do whatever it takes’ commitment in July 2012 is lifted.
Once this September’s German elections have taken place and Angela Merkel has won a new mandate, the political and media silence on the problems of the Eurozone are likely to abate, and we expect to hear from myriad Eurozone politicians and economists as imbalances and economic issues come back to the fore. Earlier today, Draghi, in his monthly ECB press conference, expressed extreme caution about the Eurozone’s nascent economic recovery as he attempted to manage market expectations for the weeks ahead.
With unemployment levels in Spain at 26.3% for the 2nd quarter of this year (down from a record 27.2% in q1) and youth unemployment over 50%, not to mention a political scandal which has seen premier Mariano Rajoy denying corruption allegations. French unemployment rates at 10.4% in q1 – the highest levels since early 1998, and concerns about another Greek bailout (three so far), the structural and political issues which have not yet been addressed will continue to stress the National budgets of countries already running deficits in excess of the 3% limit agreed under the Maastricht treaty.
The long term technical picture for the Euro points to weakness in the months ahead, as a second failure at 1.32 has seen the pair drop below 1.3130 and opened up the downside. 1.30 is the next notable level, followed by 1.28 which will likely provide key support. Below 1.28 there is not a great deal of additional support until we reach 1.24
Emerging market currency weakness against the Dollar has been the prevailing market theme over the summer as markets have focused on the interest rate differential between the US and these markets. However, this weakness has been conspicuously absent from the other G10 currencies until this week. The potential for further Dollar strength, across the board this time is high and rising, much like US interest rates. Let’s hope they don’t stamp out an economic recovery.