As Donald Trump prepares for his inauguration as the former President of the United States, the value of the euro against the dollar has been plummeting daily. Some analysts predict that the euro to dollar exchange rate could dip below parity for the first time since 2022. If the euro, which could counter the dominance of the dollar, collapses, it could also impact the won to dollar exchange rate, attracting attention.
◇ Euro-dollar parity collapse imminent… first time since November 2022
According to Investing.com on the 19th, the euro-dollar exchange rate (the dollar price per euro, based on the closing price) fell to $1.0244 on the 13th and slightly rose to $1.0302 on the 16th. This is the first time the euro-dollar exchange rate dropped to the $1.024 mark since November 21, 2022, when it was $1.0241. Comparing the exchange rate on the 16th to the result of the U.S. presidential election on November 5 last year (at $1.0930), it has fallen 6.1% over two months.
With the decline in the euro's value, the likelihood of the euro to dollar exchange rate falling below parity is increasing. The euro has fallen below parity twice since its launch in February 2000: from February 2002 to November 2002 and from August to November 2022. However, it rebounded thereafter and maintained an exchange rate above parity for most periods.
The depreciation of the euro is the result of a complex interplay of internal and external factors. Internally, projections for next year's growth rates in major countries such as Germany and France are below 1%, indicating poor performance. Additionally, the policy interest rate in the eurozone (around 3.5% per annum) is lower than in the United States (4.25% to 4.5%).
Externally, the potential implementation of universal tariffs announced by the Trump administration (which may impose a maximum 20% tariff on imported goods) and the robust economic fundamentals in the United States increase the likelihood of ongoing global dollar strength. This causes the euro's value to fall relative to the dollar.
There is a growing sentiment in the market to bet against the euro. According to the Commodity Futures Trading Commission (CFTC), the net position for the euro held by hedge funds and other non-commercial (speculative) entities turned to net selling at the end of October last year (28,500 contracts), and selling pressure has intensified since the U.S. presidential election. Earlier this month, they maintained nearly 70,000 contracts in net selling position.
Kim Yong-jun, a specialist at the International Financial Center, noted, "Major investment banks have revised their euro forecasts to reflect an additional depreciation of around 7% since the U.S. election," adding, "With the euro already nearing the $1 mark, there is considerable potential for it to fall below parity soon."
◇ Past collapses saw exchange rates rise by 15%... potential financial and export impacts
The weakness of the euro is expected to impact the South Korean economy as well. Firstly, the expiration of euro-dollar barrier options (options that activate or expire automatically when a specific exchange rate is reached), worth billions of dollars, could lead to a sudden concentration of related dollar hedge demands.
An option refers to the right to purchase goods, stocks, or foreign currency at a specific price. Before an option expires, it was possible to hedge currency by purchasing dollars at a predetermined price, even if the value of the euro fell. However, after expiration, this becomes impossible, leading investors to sell euros and buy dollars, thereby exiting the market.
If demand for dollars increases, it may also affect investor sentiment towards other currencies in the global foreign exchange market, leading to a rise in the won to dollar exchange rate. According to the Ministry of Strategy and Finance, in 2000, when parity first collapsed, the average annual exchange rate was 1,264.5 won, up 11.1% from the previous year (1,138 won). The following year, it recorded 1,313.5 won, an additional increase of about 3.9%, before dropping to 1,186.2 won in 2002.
During the second collapse from August to November 2022, the rate of increase in the exchange rate was even sharper. According to the Seoul Foreign Exchange Brokerage, the exchange rate, which was in the 1,300 won range at the beginning of August, surpassed 1,400 won by mid-September, a month later. The exchange rate soared to 1,441 won during trading on October 21 that year due to the LegoLand incident. It maintained the 1,350 won range before dropping to the 1,310 won level by the end of November.
The depreciation of the won may lead to a net outflow of domestic stock investment funds due to concerns over exchange rate losses, increasing instability in the foreign exchange and financial markets. In fact, following Trump's election, when the exchange rate exceeded 1,400 won in November last year, foreigners sold 4.154 trillion won worth of domestic stocks. In December of last year, as the exchange rate neared 1,490 won due to martial law, they recorded a net selling of 15.8949 trillion won in the government bonds futures market, setting a new record in three years and three months.
The effect of improved price competitiveness for exports is also expected to be limited. Currently, global demand is declining due to the Russia-Ukraine war, the Iran-Israel conflict, and uncertainties in the Chinese economy, resulting in heightened downward pressure on the economy. According to the World Bank (WB), the global economic growth rate significantly slowed from 6.2% in 2021 to 2.4% last year. In such circumstances, even if prices decrease, there is widespread consensus that expecting an increase in exports will be difficult.
Park Sang-hyun, a researcher at iM Securities, remarked, "If euro-dollar parity breaks, the dollar may strengthen further, leading to additional depreciation of the won," adding, "This could dampen investor sentiment and consumer confidence while increasing the burden of import prices, negatively impacting the economy." He further explained, "While there may be improved price competitiveness for exports, a slowdown in the global economy will reduce export volumes, leading to decreased revenues for corporations."