Shock dollar rally may sink euro

EXPECT the dollar to reestablish its top currency rating against the euro in the next six to nine months as investors switch to the greenback.

In fact the dollar could stage a strong rally despite languishing at historic lows against the euro.

That's how Dan Mclaughlin, chief economist Bank of Ireland Group sees the way forward.

His view is contrary to conventional economic wisdom at present, with many analysts, including international commentators, forecasting the dollar's continuing slide over the next 12 months.

Dr McLaughlin's view comes as the euro hit a new high against the dollar level since its launch back in January 1999.

While it slipped lower in sparse trading over Thanksgiving in the US the euro was yesterday quoted at $1.20 and showed no signs of any collapse after the return to normal trading.

International analysts argue the move against the dollar is driven by the US deficit and expect no change in the short-term situation.

However, while the deficit is being singled out as the cause of the weakness some believe the dollar will recover once the Federal Reserve raises US interest rates.

That could be sooner than some imagine given the strong growth trend in US GDP over 8% in the third quarter of 2003.

However, the euro is also benefiting from stronger indications of recovery as the economic sentiment index jumped to its highest point in 18 months last week. In the midst of all the speculation the growing strength of the euro will hit its fragile recovery whereas the US economy can live with either a strong or a weak dollar.

US policy has favoured a weaker dollar and that, more than economic fundamentals, is the reason the dollar has softened recently.

Brown Brothers Harman of New York do not buy that view and argued in a recent global economic review that structural problems with the finances of the US would keep the euro up at close to $1.25 throughout next year.

Dr McLaughlin disagrees. He foresees capital flowing back out of the euro zone into the dollar.

"Furthermore, the risks of a sharp dollar rally are high, given the record level of speculative short positions against the US currency," he said.

Ultimately he argues investors will sink their money into the US economy and sink the euro in the process.

By the end of December he is forecasting a drop of about 10 cents in the euro's value to $1.10, forecasting a further decline to $1.05 by March 2004 as renewed capital outflows hurt the euro.

Over the next six to nine months that is the pattern he is looking at.

Brown Brothers Harriman recently predicted the euro would hit $1.21 in the first quarter of 2004 rising to $1.29 in the third quarter of next year.

So far the latter view has prevailed.