A Misaligned Euro?

CAMBRIDGE: Caught by rising inflation from oil prices and a soaring dollar, the European Central Bank (ECB) has raised interest rates yet another notch. More is to come. Growth is wonderful; inflation is terrible; a central bank cannot avoid choosing: it must restore price stability even if that means sacrificing growth. This is what lies ahead, unless there is sudden relief from an upturn in the euro. But is it realistic to expect a rally from a currency that has been under siege since its birth?

At its introduction the euro reached impressive heights, like a high-tech IPO. But the IPO soon sunk miserably. Since its introduction, the euro has fallen further from its peak then even the Nasdaq in the high-tech sell-off of earlier this year. Like the Nasdaq’s high-tech high-flyers, the nagging questions about the euro are these: what is its fundamental value? Is there a fundamental misalignment of the euro with other currencies (most notably the dollar) and how long might this last? It is commonly assumed (but nobody takes big bets) that the Nasdaq still carries major downside risks while the euro, sooner or later, must return to normality, whatever that means. Could the opposite happen?

A recent study by the IMF reports on “equilibrium” exchange rates derived from models of long run factors in currency valuations. The equilibrium rates are reported in the accompanying table and so are today’s actual rates. According to these IMF theoretical equilibrium rates, the euro is grossly misaligned: 30% underpriced against the dollar, 18% against the Yen!

To continue reading, please log in or enter your email address.

Registration is quick and easy and requires only your email address. If you already have an account with us, please log in. Or subscribe now for unlimited access.


Log in

  1. Chris J Ratcliffe/Getty Images

    The Brexit Surrender

    European Union leaders meeting in Brussels have given the go-ahead to talks with Britain on post-Brexit trade relations. But, as European Council President Donald Tusk has said, the most difficult challenge – forging a workable deal that secures broad political support on both sides – still lies ahead.

  2. The Great US Tax Debate

    ROBERT J. BARRO vs. JASON FURMAN & LAWRENCE H. SUMMERS on the impact of the GOP tax  overhaul.

    • Congressional Republicans are finalizing a tax-reform package that will reshape the business environment by lowering the corporate-tax rate and overhauling deductions. 

    • But will the plan's far-reaching changes provide the boost to investment and growth that its backers promise?

    ROBERT J. BARRO | How US Corporate Tax Reform Will Boost Growth

    JASON FURMAN & LAWRENCE H. SUMMERS | Robert Barro's Tax Reform Advocacy: A Response

  3. Murdoch's Last Stand?

    Rupert Murdoch’s sale of 21st Century Fox’s entertainment assets to Disney for $66 billion may mark the end of the media mogul’s career, which will long be remembered for its corrosive effect on democratic discourse on both sides of the Atlantic. 

    From enabling the rise of Donald Trump to hacking the telephone of a murdered British schoolgirl, Murdoch’s media empire has staked its success on stoking populist rage.

  4. Bank of England Leon Neal/Getty Images

    The Dangerous Delusion of Price Stability

    Since the hyperinflation of the 1970s, which central banks were right to combat by whatever means necessary, maintaining positive but low inflation has become a monetary-policy obsession. But, because the world economy has changed dramatically since then, central bankers have started to miss the monetary-policy forest for the trees.

  5. Harvard’s Jeffrey Frankel Measures the GOP’s Tax Plan

    Jeffrey Frankel, a professor at Harvard University’s Kennedy School of Government and a former member of President Bill Clinton’s Council of Economic Advisers, outlines the five criteria he uses to judge the efficacy of tax reform efforts. And in his view, the US Republicans’ most recent offering fails miserably.

  6. A box containing viles of human embryonic Stem Cell cultures Sandy Huffaker/Getty Images

    The Holy Grail of Genetic Engineering

    CRISPR-Cas – a gene-editing technique that is far more precise and efficient than any that has come before it – is poised to change the world. But ensuring that those changes are positive – helping to fight tumors and mosquito-borne illnesses, for example – will require scientists to apply the utmost caution.

  7. The Year Ahead 2018

    The world’s leading thinkers and policymakers examine what’s come apart in the past year, and anticipate what will define the year ahead.

    Order now