Don’t call it a comeback, but the euro has been showing signs of strength recently, edging up above $1.32 to the U.S. dollar in trading this week after sinking as low as $1.20 earlier in 2013.And that’s despite recent comments from Federal Reserve Chairman Ben Bernanke about the central bank’s eventual unwinding of its quantitative easing policies, a move that would signal an improving U.S. economy and a stronger dollar.
And it’s even despite recently renewed unease in the European periphery, including Greece, Spain and Portugal, where a political shakeup earlier this month threatened the country's ongoing bailout process.
Through it all, the euro has remained largely steadfast.
An optimistic outlook
That’s no surprise to Axel Merk, president and CIO of Merk Investments and a noted expert on currency movements, who spoke to Yahoo! Finance between sessions at the Innovative Alternative Investment Strategies conference in Denver on Monday. What’s more, the uncertainty surrounding the euro doesn’t change Merk’s long-term and largely optimistic outlook on the European currency.
“We have been more optimistic on the euro than others,” he says, explaining that, up until last week when the Swedish krona edged it out, the euro was the best-performing currency for 2013 outside of the dollar space.
There are a couple of reasons for this.
“We’re printing a great deal of money in the U.S., Japan and UK,” he says, “and in the euro zone they’re mopping up liquidity. Draghi’s been trying to talk down the euro ... they just structurally are not as capable of printing money. They would love to have a weaker euro, just like everyone else would; it’s just hopeless for them.”
That’s because, he explains, of the relationship between European banks and the European Central Bank (ECB). Unlike the U.S. Fed, which can buy up securities, in Europe, when banks want extra liquidity they are able to simply ask for it by taking out low-interest loans from the ECB. When they don’t need extra liquidity, they return it by pulling back on borrowing, which is what has been happening lately in countries including Spain and Ireland, as local banks shore up their balance sheets. Merk doesn’t believe that everything is rosy in the euro zone (see the EU bailout of Cyprus last spring, for example) but that the euro itself will do “very well” going forward.
Attuned to trouble
The key is that now the ECB knows how to deal with trouble at the periphery.
“What’s going to happen is a continuation of what’s been happening in recent years: weak countries losing control over their budgets,” he says. “What has changed is it used to happen in a very chaotic fashion, then it happened in a predictably chaotic fashion, and now it’s happening slowly but surely in a systematic fashion.”
What’s more, the system is now strong enough to weather these challenges through market forces.
“Some countries are going to continue to have problems, but Europe as a whole is going to do quite well,” Merk says. “It clearly will have some cyclicity to it, but the euro can perform well because the euro zone doesn’t have a currency problem. They don’t need that [foreign investment] money from abroad. In fact, the money never fled out of the periphery and to the rest of the world; it went to the core countries and the stronger countries. Europe is going to continue to be messy but the euro is going to be much, much stronger.”
What do you think? Is Merk correct that the euro is setting up for a position of strength? Do you believe in Europe’s chances over the long run?