HEARD ON THE STREET: A Turning Point For The Euro?

The resilience of the euro against the dollar throughout the euro-zone sovereign debt crisis has been a puzzle. Policymakers have been happy to accept this as a vote of confidence in the single currency. But with the euro now just under $1.32, well above its 10-year average of $1.285, it has become a drag on recovery hopes. Fortunately, the door may be opening to a weaker euro.

The key is the U.S. recovery: U.S. Federal Reserve chairman Ben Bernanke sent the euro skidding this week as investors interpreted his testimony to Congress as signalling a lower likelihood of more quantitative easing. Meanwhile the European Central Bank has disbursed over EUR1 trillion in three-year loans and may yet cut rates below 1%. If the U.S. recovery continues to gather strength, the dollar could now start to gain along with risk assets.

Some conditions now favor a weaker euro. The market is starting to anticipate higher U.S. rates: the gap between U.S. and euro swap rates has narrowed. Against other currencies, the euro is already weakening: in the past three months, it has fallen 6.6% against the Australian dollar, 8.2% against the Polish zloty and 8.4% against the South African rand. The euro could fall to $1.15 this year and further in 2013, UBS forecasts.

A weaker euro should boost competitiveness the euro zone's competitiveness against the rest of the world. A 10% drop in the trade-weighted exchange rate could boost euro-zone growth by 0.2 percentage points in the first year and a more significant 0.6 points in the second year, UBS calculates. Better still, the biggest beneficiaries are likely to be Southern European economies such as Spain and Italy where prices may have a bigger impact on competitiveness than in countries such as Germany and the Netherlands whose exports have flourished despite euro strength.

For much of last year, a sharply weaker euro could have been a factor that accelerated the crisis and caused worries about the currency's survival. Now it might grant some relief from the economic problems the crisis has generated. That would be a big step forward.