Euro Forecast to Fall 8% Against Dollar at Capital Economics

"We think this is increasingly reminiscent of the late-1990s dotcom era, and now expect a similar bubble to form in the U.S."

Image © European Union - European Parliament.

The Euro to Dollar exchange rate (EURUSD) is expected to trade notably lower than current levels by the time 2023 is out according to a new analysis from the independent research firm Capital Economics.

Writing in a mid-year currency review, analyst Jonas Goltermann says, "our view is that the U.S. Dollar will strengthen further against most other currencies over the coming quarters as risk appetite sours amid recession in the U.S., euro-zone and other developed markets.

Goltermann, who is Capital's Deputy Chief Markets Economist, says the Dollar is ultimately flat for the year so far, with supportive factors such as improved U.S. economic data surprises and higher interest rates being offset by unsupportive factors such as a broadly improved global risk sentiment.

But sentiment will ultimately deteriorate over the coming months as recessionary pressures take hold and prompt demand for the familiar safe-haven characteristics of the Dollar.

EURUSD had traded as high as 1.1095 in late April and 1.1092 in early May, but this strength has waned and the pair has eased back towards the 1.06-1.08 region of the past couple of weeks.

One potential area of interest for the Dollar outlook lies with the ongoing AI-driven boom in a handful of U.S. technology stocks, that Capital Economics says increasingly appears to be a bubble.

"We think this is increasingly reminiscent of the late-1990s dotcom era, and now expect a similar bubble to form in the U.S. equity market over the coming years. So far, the rebound in the relative performance of U.S. equity indices has done little to support the Greenback," says Goltermann.

"But the dotcom era was accompanied by a substantial rise in the dollar, partly driven by capital inflows related to the stock market boom. So if we are right that the AI euphoria will continue, it may help the dollar rebound - and, perhaps, stay stronger for longer than we currently forecast," he adds.

Alongside these views, Capital Economics maintains a pessimistic stance on the Eurozone's prospects.

"We expect the euro to depreciate markedly on the back of a further deterioration in economic activity," says Hubert de Barochez, Market Economist at Capital Economics.

A "pessimistic outlook for major developed market economies" including the U.S. and the euro-zone, suggests to Capital Economics that the dollar will appreciate against most currencies, benefitting from "risk-off" sentiment.

"The upshot is that we forecast the euro to drop back to parity by the end of 2023, which would represent a fall of about 8% from its current level," says de Barochez.

Lower-than-expected euro-zone PMIs in June - confirmed in the final prints out on July 05 - support Capital Economics' view that economic activity will disappoint and "push the euro and government bond yields down by the end of 2023."