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    The PIGS and the Euro’s strength

    Facing economic crisis at the end of the 2000s, which was closely intertwined with the debt crisis, the Euro area began to fight this “disease” by the German recipe. The main ingredients of this bitter potion are well known – austerity and structural reforms. The effectiveness of this medicine has been debated for years. Some economists actively protect it, while others criticize – they say, when the economy is weak, it is necessary not to save, weakening it further, but on the contrary, to actively stimulate the recovery by increasing government spending …

    However, despite opponent’s protests, German medicine has been used for several years. How to assess its effectiveness? Probably, by the effect that it produced on the most “unhealthy” Eurozone countries – the so-called PIGS (Portugal, Italy, Greece, Spain). And the moment for this is quite appropriate – the Eurozone preliminary GDP data in the first quarter came out yesterday. So, how do the PIGS feel according to this report?

    There’s no clear answer yet. Economic growth in the “problematic” countries in the first three months of 2015 was very uneven. At one extreme is Spain, which GDP grew by 0.9% q/q, making the country a leader in the Eurozone. Even the “core” of the currency bloc failed to keep up with Spanish growth pace – Germany registered 0.3% and France 0.6%. Italy and Portugal showed decent results – their economies grew by 0.4% and 0.3% q/q, respectively. But there is another pole – Greece, which GDP fell for a second consecutive quarter, by 0.2% q/q, indicating the return into recession.

    What do these results mean? Maybe, German medicine is not for everyone? Or has Greece suffered because it disregarded the treatment – neglected austerity, delayed introduction of new reforms?

    While economists are looking for the answer to this conceptual question, let’s try to answer a more practical question: how will the Eurozone’s economic growth influence the exchange rate of the single European currency?

    In fact, it turns out that the Euro zone has surpassed even the UK in the first quarter, which is usually regarded as an example of a rapid post-crisis recovery. Growth in E-19 was 0.4%, while British economy registered only 0.3% q/q. So, the thought comes to mind: “If everything goes so well in the euro area, is there a chance that the ECB will wind down its stimulus program ahead of time? And then even increase the rates… “.

    So maybe it’s time to buy euros, taking the long-term view? Technical picture says in favor of this assumption: the EUR/USD pair has rebounded from the lower border of its descending channel it looks like now it has only one direction to go – up.

    EURUSDMonthly14-5-15

    But everything is not that simple. On the way to the “north” the Euro can run up against the four “bullies”:

    • The first “bully” – the ECB. Hopes that the central bank winds down its QE are illusory. Mario Draghi is determined to follow through with his plans, so until the fall of 2016 the European bond yields will be constrained by massive purchases by the ECB.
    • The second “bully” – the Fed. If you believe that the weakness of the US economy will force the Fed to refrain from raising interest rates this year, then it is in vain. Most likely, it’s because of the weakness of the economy the rates will be raised. It’s risky to dramatically increase the load on weak system – the process should be gradual and sustained. And therefore, it is better to begin the tightening earlier to make it smooth and comfortable.
    • The third “bully” – Alexis Tsipras, Greek prime minister. No one knows how he will act next and what it will cost the Eurozone.
    • The fourth “bully” is oil. Decline in oil price has supported the euro area for a few months. Without this support, it’s rapid recovery is unlikely. But oil is not falling now, it’s growing, and this is bad news.

    These four “guys” can hold back the Euro from growing. And it’s not just them. The Eurozone economy was able to grow rapidly in the first quarter, because the exchange rate of the single currency was at a comfortable level for local producers. If the Euro appreciates too quickly, the problem of the Euro will become the Euro itself.

     

    Dear traders, please post your comments to our forecasts and share your own opinion. Your ideas can be very helpful for the newcomers in the forex market. Thank you!

    Facing economic crisis at the end of the 2000s, which was closely intertwined with the debt crisis, the Euro area began to fight this “disease” by the German recipe. The main ingredients of this bitter potion are well known – austerity and structural reforms. The effectiveness of this medicine has been debated for years. Some economists actively protect it, while others criticize – they say, when the economy is weak, it is necessary not to save, weakening it further, but on the contrary, to actively stimulate the recovery by increasing government spending …

    However, despite opponent’s protests, German medicine has been used for several years. How to assess its effectiveness? Probably, by the effect that it produced on the most “unhealthy” Eurozone countries – the so-called PIGS (Portugal, Italy, Greece, Spain). And the moment for this is quite appropriate – the Eurozone preliminary GDP data in the first quarter came out yesterday. So, how do the PIGS feel according to this report?

    There’s no clear answer yet. Economic growth in the “problematic” countries in the first three months of 2015 was very uneven. At one extreme is Spain, which GDP grew by 0.9% q/q, making the country a leader in the Eurozone. Even the “core” of the currency bloc failed to keep up with Spanish growth pace – Germany registered 0.3% and France 0.6%. Italy and Portugal showed decent results – their economies grew by 0.4% and 0.3% q/q, respectively. But there is another pole – Greece, which GDP fell for a second consecutive quarter, by 0.2% q/q, indicating the return into recession.

    What do these results mean? Maybe, German medicine is not for everyone? Or has Greece suffered because it disregarded the treatment – neglected austerity, delayed introduction of new reforms?

    While economists are looking for the answer to this conceptual question, let’s try to answer a more practical question: how will the Eurozone’s economic growth influence the exchange rate of the single European currency?

    In fact, it turns out that the Euro zone has surpassed even the UK in the first quarter, which is usually regarded as an example of a rapid post-crisis recovery. Growth in E-19 was 0.4%, while British economy registered only 0.3% q/q. So, the thought comes to mind: “If everything goes so well in the euro area, is there a chance that the ECB will wind down its stimulus program ahead of time? And then even increase the rates… “.

    So maybe it’s time to buy euros, taking the long-term view? Technical picture says in favor of this assumption: the EUR/USD pair has rebounded from the lower border of its descending channel it looks like now it has only one direction to go – up.

    EURUSDMonthly14-5-15

    But everything is not that simple. On the way to the “north” the Euro can run up against the four “bullies”:

    • The first “bully” – the ECB. Hopes that the central bank winds down its QE are illusory. Mario Draghi is determined to follow through with his plans, so until the fall of 2016 the European bond yields will be constrained by massive purchases by the ECB.
    • The second “bully” – the Fed. If you believe that the weakness of the US economy will force the Fed to refrain from raising interest rates this year, then it is in vain. Most likely, it’s because of the weakness of the economy the rates will be raised. It’s risky to dramatically increase the load on weak system – the process should be gradual and sustained. And therefore, it is better to begin the tightening earlier to make it smooth and comfortable.
    • The third “bully” – Alexis Tsipras, Greek prime minister. No one knows how he will act next and what it will cost the Eurozone.
    • The fourth “bully” is oil. Decline in oil price has supported the euro area for a few months. Without this support, it’s rapid recovery is unlikely. But oil is not falling now, it’s growing, and this is bad news.

    These four “guys” can hold back the Euro from growing. And it’s not just them. The Eurozone economy was able to grow rapidly in the first quarter, because the exchange rate of the single currency was at a comfortable level for local producers. If the Euro appreciates too quickly, the problem of the Euro will become the Euro itself.

     

    Dear traders, please post your comments to our forecasts and share your own opinion. Your ideas can be very helpful for the newcomers in the forex market. Thank you!


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