Could This Be Bad for the EUR to USD Exchange Rate?

The euro to U.S. dollar exchange rate forecast is no longer simply bullish for the dollar; it is now disastrous for the euro. Indeed, there is little doubt the dollar will hit parity with the euro in the next few months, but it now appears as thought the dollar will surpass the euro. The strong employment figures issued on December 4 have raised expectations of a U.S. interest rate hike next week, further lifting the EUR/USD outlook, with the EUR to USD exchange rate closing at 1.08498 on Friday.

Additionally, the win for the nationalist and anti-euro coalition, the National Front led by Marie Le Pen, in France’s December 6 election may not only send political shockwaves throughout the European Union, but it could also shake the eurozone to the point of a veritable collapse in the euro as a currency and as a concept over the long-term. In the short-term, it could accelerate the path to EUR/USD parity and the USD’s eventual overtaking of the euro.

Tough Times Ahead for the Euro

Surely, the euro will have a difficult week against the dollar (and the British pound), even if the charts have not shown a drastic descent. That is because it is still early for the markets to absorb the full implications of the political blow, even if Marie Le Pen’s success may yet be premature. In fact, the euro may be more resilient than many expect.

Nevertheless, an eerie cloud is slowly and steadily moving from Paris toward Frankfurt and the seat of the European Central Bank (ECB), ready to cast a shadow over the fate of the euro. Marie Le Pen’s National Front is the strongest political party in France, having won 30% of the votes in the regional elections, ahead of former French president Nicolas Sarkozy’s UMP (also to the right of center). (Source: “Front National wins opening round in France’s regional elections, ” The Guardian, December 7, 2015.)

The ruling Socialist party, represented by President Francois Hollande, has not gone beyond 22%; evidently, the nationalistic posturing in the wake of the Paris attacks and the intensification of the anti-ISIS campaign have failed to deliver political capital. The National Front (FN) led in six of France’s 13 regions in the first round and the chances for a successful second round may even be higher, especially given the FN’s surprising gains in Provence. (Source: “National Front stuns Europe’s political elites, ” The Financial Times, December 7, 2015.)

As the presidential electoral season approaches, the euro will come under intense pressure also, because the FN’s win will boost the appeal of similar parties in other key eurozone states, such as Italy, where Marie Le Pen’s “equivalent” (largely), Matteo Salvini, is singing a similar political tune. The municipal electoral success could translate to a presidential electoral triumph for Marie Le Pen in 2017.

True, the euro still has a chance to make a case for itself and if the ECB’s stimulus policies translate into higher employment and more widespread economic growth, especially in France and Italy, where euro sentiment is significantly down, then perhaps over the next year of political posturing, Sarkozy and Hollande may recover some political ground. However, if economic growth in the eurozone remains stagnant, the speculators may launch a bearish assault on the euro. “Les jeux sont faits et rien ne va plus, ” as they say in Monte Carlo at the Casino; on Wall Street, they might say “all bets are off.”

Europe Will Have to Face Reality

While the political match may still hold some surprises, there is little doubt that if a presidential election were to be held now, at the end of 2015, Le Pen would be the top candidate to win the presidency. Should this materialize in 2017, according to her platform, FN voters will expect Marie Le Pen to initiate proceedings to lead France out of the euro and perhaps even out of Europe, thus disrupting the eurozone and the very European Union, which is already under threat from the “Brexit, ” the UK’s exit referendum.

Just as many British citizens are evaluating the costs of the Brexit, French citizens will not find it easy for France to abandon the euro either. Meanwhile, it does not follow necessarily that FN’s municipal-level victories will translate to a presidential one over the longer term. Le Pen’s rivals, Sarkozy and Hollande, have sufficient time to explain the costs of France’s potential departure from the eurozone, perhaps averting the euro’s blowup, even as the dollar gains strength.

France also has public debt approaching 100% of the country’s gross domestic product (GDP), its taxes are high, and there is no primary surplus. Additionally, although France is modern in many ways, the country still has a highly centralized business and government structure. Today, France can still manage to survive, and maybe even thrive, but it can do so because of the euro. Should France abandon the single currency and its membership in the EU, the country would find itself having to pay interest on its public debt: a scary prospect. (Source: “French Far Right Victory Brings Eurozone Disaster Closer, ” Fortune, December 7, 2015.)

In order to confront such problems, Le Pen would have to do the unthinkable: raise taxes, just as Hollande has. Eventually, Le Pen would be forced to cut a large chunk out of the welfare state, leaving French citizens, who have become accustomed to excellent social benefits, to suffer increasingly poorer services. Marie Le Pen’s rivals will hammer this message in an effort to reduce her chances of winning in 2017, but it will put the euro under increasing pressure from the U.S. dollar, which should easily surpass it.

Le Pen Will Hit Euro, but Europe Isn’t Dead

Le Pen’s win is not favorable for the euro, but the euro’s value has already been burdened by structural problems. Like many eurozone countries, and not just the “PIGS” (Portugal, Italy, Greece, and Spain), French public finances were and still are very much at risk. A possible exit from the euro would cause them to plunge. Therefore, the euro will be weaker against the dollar, but its chances of survival are stronger than one round of municipal elections.

The euro bears in the EUR/USD pairing may have the final word, but it would be foolish to expect a French exit, already dubbed a “Frexit, ” from the European Union or the eurozone. The euro, therefore, will survive, even if it is weaker against America’s currency. French citizens, even the populist ones, are unlikely to vote in favor of the sacrifices the whole country would have to make in the event of a Frexit.

Eventually, as France (and other European countries) discovers that its best choice is to keep the euro and stay on Germany’s side, which has given France a privileged role, the French will vote in favor of the single currency, as a departure from the euro would simply mean higher taxes and fewer social services. (Source: “France economic outlook, ” Focus Economics, November 24, 2015.)

As Marie Le Pen, sometimes referred to as “Madame Frexit, ” will find out, even if she manages to bewitch the French with dreams of a eurozone exit, France is as economically vulnerable as the region’s other economies. Beyond the slogans and the politics, Le Pen will have very little room to maneuver.

Courtesy of Profit Confidential, by Alessandro Bruno