Could the ECB prevent a rise in the EUR/USD exchange rate? – Commerzbank

In recent days, several members of the ECB Governing Council have expressed concern about the strength of the Euro (EUR). This marks a new tone from the central bankers. After all, not so long ago, ECB President Christine Lagarde was almost delighted with the development of the single currency which reflected increasing confidence in the euro economy, etc. But currently, the currency watchers are not so happy about the euro's appreciation after all. ECB Vice-President De Guindos even mentioned a specific exchange rate level: a EUR/USD rate above the 1.20 mark would be ‘problematic’, Commerzbank's Head of FX and Commodity Research Thu Lan Nguyen notes.

ECB can't prevent EUR to rise above 1.20

"Of course, the ECB does not pursue a specific exchange rate target, as this would violate the G20 agreement on exchange rate policy. What De Guindos means by this is not the level itself, but the speed at which the exchange rate reaches this level. It is primarily rapid and pronounced exchange rate movements that can impair companies' planning security and therefore become relevant to the real economy. So far, the trade-weighted euro exchange rate has appreciated by over 7% since its low in February. That is indeed a significant movement in such a short period of time. In its latest projections, the ECB expects only a slightly higher average value for its preferred measure. If the appreciation trend continues, it would have to adjust its forecasts, i.e. assume more subdued inflation, among other things. This, in turn, would open up scope for a more expansionary monetary policy."

"De Guindos has drawn a fairly clear line in the sand by referring to the 1.20 mark. The problem with limits is that they tend to be tested. So if EUR/USD were to break through this mark soon, the market would be eagerly awaiting the ECB's response. If it remains inactive, the euro could appreciate even more strongly. If it lowers its interest rates in response (foreign exchange market interventions are ruled out in view of the G20 agreement), this could initially slow down the appreciation, but it is unlikely to cause a significant depreciation against the US dollar. After all, everyone knows that it cannot lower the key interest rate indefinitely."

"The main problem, however, is that the rise in the EUR/USD exchange rate is not due to a discrepancy in monetary policy between the US and the eurozone, but primarily to US policies that are damaging to the US dollar. How far the EUR/USD exchange rate will rise depends largely on what certain people in the White House come up with. Unfortunately, Lagarde and her colleagues have no influence over this. I therefore doubt that they will be able to prevent a rise above 1.20 – at least if it is driven by USD weakness."