10 October 2003

EZA 559: Euro-Politics

US/UK political disarray may boost euro, sparking ECB intervention
US and UK political changes over the next year could significantly shift the risk/reward outlook for euro assets. The deepening chaos in Iraq is raising the probability that US President George W. Bush and British Prime Minister Tony Blair could lose power within the next 18 months. Political disarray in the US and UK would add further upside pressure to the euro's effective exchange rate, already at its highest since late 1995 - when euro/ecu reached a putative $1.32. This rise would cause the fragile euro area upturn to falter, widen the recently-reversed, negative yield gap between Treasuries and Bunds, and overturn any thought in the European Central Bank of tightening policy (EZA rpt 554/03Sep12). Aside from the yawning US current account undermining the dollar, euro fundamentals show solid underpinning from trends in the area external account over the last 4-6 quarters. The capital account is solid and the current account is being quite quickly eroded by the currency rise. Euro/dollar intervention is rapidly coming back onto the agenda. The European Central Bank may well act if the rise is too fast. This is the first of a two-part report.

SummaryAsset Conclusions: Political disarray in US, UK may add to global upward pressure on euro in next 18 months, shifting ECB back toward easing bias

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© Graham Bishop