Euro-Dollar currency exchange
The euro to US dollar exchange rate is the price at which the world demand for US dollars equals the world supply of euros. Regardless of geographical origin, a rise in the world demand for euros leads to an appreciation of the euro.
Factors affecting the Euro to US dollar exchange rate Four factors are identified as fundamental determinants of the real euro to US dollar exchange rate:
• The international real interest rate differential between the Federal Reserve and European Central Bank
• Relative prices in the traded and non-traded goods sectors
• The real oil price
• The relative fiscal position of the US and Euro zone
The nominal bilateral US dollar to euro exchange is the exchange rate that attracts the most attention. Notwithstanding the comparative importance of bilateral trade links with the US, trade with the UK is, to some extent, more important for the euro. The following chart illustrates the EUR/USD exchange rate over time, from the inauguration of the euro, until mid 2006. Note that each line (the EUR/USD, USD/EUR) is a “mirror” image of the other, since both are reciprocal to one another. This chart is illustrates the steady (general) decline of the USD (in terms of euro) from the beginning of 2002 until the end of 2004.
Factors affecting the Euro to US dollar exchange rate Four factors are identified as fundamental determinants of the real euro to US dollar exchange rate:
• The international real interest rate differential between the Federal Reserve and European Central Bank
• Relative prices in the traded and non-traded goods sectors
• The real oil price
• The relative fiscal position of the US and Euro zone
The nominal bilateral US dollar to euro exchange is the exchange rate that attracts the most attention. Notwithstanding the comparative importance of bilateral trade links with the US, trade with the UK is, to some extent, more important for the euro. The following chart illustrates the EUR/USD exchange rate over time, from the inauguration of the euro, until mid 2006. Note that each line (the EUR/USD, USD/EUR) is a “mirror” image of the other, since both are reciprocal to one another. This chart is illustrates the steady (general) decline of the USD (in terms of euro) from the beginning of 2002 until the end of 2004.
In the long run, the correlation between the bilateral US dollar to euro exchange rate, and different measures of the effective exchange rate of Euroland, has been rather high, especially when one looks at the effective real exchange rate. As inflation is at very similar levels in the US and the Euro area, there is no need to adjust the US dollar to euro rate for inflation differentials. However, because the Euro zone also trades intensively with countries that have relatively high inflation rates (e.g. some countries in Central and Eastern Europe, Turkey, etc.), it is more important to downplay nominal exchange rate measures by looking at relative price and cost developments.
