The Euro-US Dollar Currency Exchange

This article provides an overview of the factors affecting the leading currency pair: euro-dollar exchange commonly referred to as EUR / USD.

The euro-dollar exchange rate is the price at which the world demand for US dollars equals the world supply of euros. Regardless of geographical origin, a rise in the world demand for euros leads to an appreciation of the euro.

Factors affecting exchange rates

Four factors are identified as fundamental determinants of the real euro to dollar exchange rate:
• The international real interest rate differential
• Relative prices in the traded and non-traded goods sectors
• The real oil price, precious metals and other commodities.
• The relative fiscal position
The nominal bilateral dollar to euro exchange is the exchange rate that attracts the most attention. Despite the comparative importance of euro to US dollar bilateral trade links, trade with the UK is, to some extent, more important for the Euro zone than is trade with the US. The dollar and the euro have a strong predisposition to run together in the very short term, but sometimes there can be significant discrepancies. The very strong appreciation of the dollar against the euro in 2003 is one example of these discrepancies.

In the long run, the correlations between the bilateral dollar to euro exchange rate, and different measures of the effective exchange rate of Euroland, have been rather high, especially if one looks at the effective real exchange rate. As inflation is at very similar levels in the US and the Euro area, there is no need to adjust the dollar to euro rate for inflation differentials, but because the Euro zone also trades intensively with countries that have relatively high inflation rates (eg some countries in Central and Eastern Europe, Turkey, etc.), it is more important to downplay nominal exchange rate measures by looking at relative price and cost developments.