Euro to end year higher against the dollar

AN unexpected slowdown in the US recovery in the second quarter is undermining the dollar.

Trends suggest the euro will end the year at a higher level than thought.

With growth in the eurozone picking up by comparison, Bank of Ireland economist Dan McLaughlin is revising his forecast for the euro upwards, predicting it will end the year at $1.35 to the dollar or possibly higher.

Several factors are at play, including the likelihood that the Federal Reserve will not raise interest rates from close to 0% until the spring of 2012.

In contrast to other central banks, the Fed’s mandate includes the maintenance of full employment. So the expectation has grown that they will act to keep interest rates low and will allow greater credit flows ito the economy to boost demand through quantitative easing.

The market also expects, due to the weakness of the recovery in the world’s biggest economy, the Fed will hold back on raising rates until the spring of 2012 and that combined with a further easing of credit “has put downward pressure on the dollar,” Mr McLaughlin said.

The most recent Fed statement flagged this possibility but also included the belief that inflation is now too low in the US.

As a result, there are two possible triggers for quantitative easing: a further period of sluggish growth or a potential series of weak inflation readings, Mr McLaughlin said.

Other factors also point to a stronger euro, including the reluctance of its trading partners to allow their currencies to gain against the dollar. Those economies include Japan and China but the eurozone has no such policy.

“Moreover, economic activity surprised to the upside in Europe over the summer months and the ECB has revised up its forecasts of GDP and inflation for this year and next,” Mr McLaughlin said.