Forecast: Euro in 2014

The euro was one the best-performing currencies by the end of 2013, but was experiencing weakness at the start of this year. Can the shared 17-nation currency keep its gains and continue the rally or will it fail under the weight of eurozone problems? Specialists have different take on the matter.
As in the case of the dollar, the performance of the euro greatly depends on monetary policy of the central bank, which in turn, depends of the health of the economy. DailyFX believes that the European Central Bank has little room for monetary easing, making it unlikely to prevent further gains of the currency. In the most recent assessment the site said:

So, with the ECB merely threatening to do ‘whatever is needed’, the risk of a BoJ-like stimulus move that could significantly devalue the currency is seen as lower probability.

At the same time, the outlook was a bit cautious compared to the annual forecast:

The economic, financial and fundamental backdrops do not look so abundant. Should concern rise and deleveraging begin, the capital reversal out of Europe could prove volatile – presenting a looming but incredible risk for the currency.

Scotiabank has noticeably different (even opposing) view as it predicts “a weakening tone” of major European currencies. It is expected the European Union will continue to struggle with internal problems and this results in the following outlook:

We expect the currency to soften in 2014 on the back of relative monetary policy, with the ECB likely to remain dovish for longer than the Fed; relative economic performance and politics, including upcoming hurdles to the banking union. We hold a Q114 target of 1.33.

Forex Crunch took middle ground. Simon Smith thinks that the eurozone problems are not solved and may hurt the euro too, but the major impact will be felt in 2015, not this year. He also does not think that the ECB will add stimulus and even if it does such action would have a limited impact. As a result, the analysts made a following prediction:

Even with tapering, after the initial dollar bounce, the euro should continue to perform well in the early part of 2014 and even when dollar strength is more broad-based, the euro will continue to outperform both sterling and the yen.

All in all, it looks like the euro will be susceptible to the market sentiment. Therefore, it will be important for traders to watch economic forecasts for the eurozone as well as comments of ECB policy makers, which may hint at future actions of the central bank.
For now, it does not look like the ECB is going to change its policy. Inflation was at 0.8 percent in December, according to the preliminary estimate, nowhere near the 2 percent target, and the bank considers that price risks are balanced in the near term, while in longer term there are upside risks. ECB President Mario Draghi said after the most recent policy meeting:

The Governing Council strongly emphasises that it will maintain an accommodative stance of monetary policy for as long as necessary, which will assist the gradual economic recovery in the euro area. Accordingly, we firmly reiterate our forward guidance that we continue to expect the key ECB interest rates to remain at present or lower levels for an extended period of time

This means that policy makers are not going to reduce monetary accommodation anytime soon, but also are not planning to add even more stimulus.

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