The euro decreased by 0.16% against the dollar today and is trading at around 1.1547, close to its lowest level this year.
The uncertainty over war decisions in the Middle East and the ongoing rise in oil prices despite market interventions continue to put downward pressure on the euro. This pressure persists even as the gap between US Treasuries and Eurozone yields narrows. However, concerns about inflation and supply chain issues are preventing the euro from benefiting from the carry-trade effect.
The yield differential between the benchmark 10-year German Bund and its U.S. Treasury counterpart has widened toward its most pronounced level since 2023, currently at −1.28 percentage points, yet the euro remains unable to capitalize on this narrowing spread. Despite the relative rise in European yields, the single currency is struggling to gain traction as geopolitical risk premiums and safe-haven flows continue to bolster the U.S. dollar.
The euro remains under pressure because Europe’s high dependence on energy imports makes its economy significantly more vulnerable to the stagflationary shock of the Iran conflict than the energy-independent United States.
The erratic and unrealistic statements by US President Donald Trump also keep the market in a constant state of tension, which may prevent it from benefiting from signs that the war cannot last much longer.
For example, Trump stated that the Strait of Hormuz is safe for vessels and claimed the Iranian Navy is completely destroyed; however, the conflict between Iran and U.S.-Israeli forces has significantly escalated. According to Reuters, explosive-laden Iranian boats appear to have attacked two fuel tankers in Iraqi waters, setting them on fire on Wednesday, after projectiles struck four vessels in Gulf waters. The recent attacks on ships associated with the U.S. and Europe represent an escalation in the conflict between Iran and U.S.-Israeli forces, increasing the number of ships targeted in the region since fighting began to at least 16.
The situation could worsen. An Iranian official threatened on Wednesday to close another strait, similar to the Strait of Hormuz, if the United States makes “any mistake,” as he put it. The unnamed military official said, “Any American mistake will complicate the situation in the region, and Iran has phased and escalating military plans.” He added, “The region could enter a regional war soon, and we still have many cards to play,” Al Jazeera reported. He continued, “If Washington makes a strategic mistake, another strait will be in a similar situation to the Strait of Hormuz.”
This suggests that the escalation could involve the Bab al-Mandab Strait, and a widespread closure of it could lead to further disruptions in global supply chains and help drive inflation.
Meanwhile, oil prices resume their upward rally, with West Texas Intermediate (WTI) and Brent futures settling above $90 and $95 per barrel, respectively. That came even amid the surprise intervention into the oil market. The Wall Street Journal reports that the Trump administration made a sudden reversal, pressuring the IEA to authorize a historic 400-million-barrel oil release, including over 100 million barrels from the U.S., despite breaking protocol. Crude prices rose by over 5% after the announcement, as doubts persisted about whether the release could offset prolonged closures of the Strait of Hormuz. The market seems to think these interventions are not sustainable.
With these sentiments in the energy market, the euro might be trapped in a bearish trend, as the market recalls the aftermath of the end of the war in Ukraine, the brief spike in oil prices, and the widespread contraction in business and industrial activity.
In fact, this time might be even worse for the euro than 2022. A prolonged period of high energy prices could hinder Europe’s economic recovery, as the EU depends on fossil fuel imports for about 58% of its energy.
Rising global energy costs, driven by dwindling supply from the Gulf and a bidding war for remaining resources, have increased European gas prices by over 50% this month, potentially impacting eurozone inflation three times as much as in the U.S., especially in heavily dependent countries like Italy.
Despite current prices of around €50 per megawatt-hour, significantly lower than the €300 level seen after Russia’s invasion of Ukraine, few economists expect a crisis to mirror that upheaval.
With these inflation and supply chain risks, the eurozone might struggle. Multiple surveys published over the past few years, following the inflation surge, indicate that the eurozone has been unable to sustain growth in this economic environment. This situation threatens to lead to a prolonged decline in the euro‘s value. These surveys, including S&P Global PMI reports, GfK Consumer Climate, Ifo Business Climate, and Sentix Investor Confidence, all reported that rising inflation and higher rates caused economic activity to contract.
To make matters worse for the euro, European Central Bank monetary policy tools might not support the euro in tightening again, as in 2022, or in maintaining the current tightening for a prolonged period.
According to the Wall Street Journal, the European Central Bank and the Bank of England are unlikely to repeat the aggressive rate-hike cycle of 2022, despite the recent surge in oil prices following the conflict in the Middle East. Economists argue that the current economic landscape differs decisively from the post-pandemic era; inflation was already near the 2% target before the strikes, and interest rates are already at neutral or restrictive levels.
While markets recently amped up bets on potential rate hikes to avoid a stagflationary shock, weaker consumer demand and precariously low sentiment may actually necessitate looser, rather than tighter, monetary policy.
Conversely, the euro‘s best chance to escape its current situation depends on the hope that the United States might abandon its war in the region. Recent reports have indicated that the Trump administration may be considering alternatives to ending the war and claiming a victory one way or another, influenced by rising energy and fuel prices and unsustainable stockpiles of defensive munitions.