Euro Currency Recovery Is Temporary

By Alan Bush, Archer Financial Services

The euro registered a 16-month low against the U.S. dollar on January 13 at 1.2627. Much of the selling was linked to increasing worries that the euro zone economy will continue to weaken. The news was overwhelmingly bearish, as these lows were made, such as the report from Germany's Federal Statistics Office when they said Germany's economy probably contracted in the fourth quarter by .25% from the third quarter. In addition, the European Union reduced their euro zone growth estimate to .1% in the third quarter from the .2% growth they had previously estimated. A Bloomberg survey at the time showed the euro zone economy could shrink by .2% this year.

Unemployment in the euro zone hit a record high at the end of 2011. The jobless rate in the 17 countries that use the single currency was 10.4% in December. This was unchanged from November's figure, which was revised up from 10.3%. There were 16.5 million people out of work in the euro zone in December, which is up 751,000 from the prior year. The highest unemployment rate remains in Spain at 22.9%, while the lowest is in Austria, at 4.1%. The unemployment rate has been rising throughout 2011, as the debt crisis in the area has continued. In December 2010, the unemployment rate in the euro zone was 10%.

Illustrating the lack of confidence in the euro zone were reports that some in the Greek business community are pushing for a return to the drachma, which possibly would enable businesses with tax arrears to pay their debt in devalued "new" drachmas rather than in euros.

The euro was also hurt by talk that the European Central Bank may have to write down its holdings of Greek sovereign debt. In addition, Fitch Ratings downgraded several euro zone countries, including Italy and Spain.

More recently, the fundamentals appeared to have gotten better, causing prices to partially recover. For example, Greek Prime Minister Papademos said progress had been made in debt swap negotiations with the private holders of Greek sovereign debt. There were recent reports that the holders of Greek debt may get a sweetener, as part of the deal to accept a lower yield on new debt, in the event that there was an improvement in the Greek economy.

EURO CURRENCY FUTURES - MONTHLY CONTINUATION

Chart provided by APEX

There was additional support for the euro when European Union leaders, at their January 30 summit in Brussels, agreed on a fiscal discipline plan that would impose sanctions on high budget deficit member nations. Only the Czech Republic and the U.K. refused to sign the agreement on grounds that too much of their sovereignty would be given up.

CONCLUSION

Although some of the recent news from the euro zone has suggested financial conditions may have gotten a little better, the longer-term underlying fundamentals remain bearish for the currency of the euro zone. While there is no shortage of economic and political problems in the U.S., it appears that the strains on the financial system in the euro area are much more severe by comparison. Our analysis suggests the euro zone economy will enter into a recession this year. As a result, we anticipate there will be increased motivation for market participants to seek the relative safety of the U.S. dollar, by moving out of the euro currency and into greenback.

The main trend for the euro currency is lower, with the next downside psychological chart objective coming in at 1.2500 to be followed by a test of the 1.2000 area. In the long term, the series of lows at the 1.1661 to the 1.2326 area may offer only temporary support.