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Summary

  • Many analysts have underestimated the effect the European account surplus would have on the value of the euro.
  • As in the case of Japan, it is possible for an economy to be performing average, or even be in recession, and the currency to appreciate.
  • Irrespective of the growth prospects of the European economy, if this surplus continues, it means upside pressure on the euro.

Not only has the euro (NYSEARCA:FXE) proved resilient against the dollar (NYSEARCA:UUP), but the EURUSD pair is hovering at multi year highs.

While one can debate whether Europe is actually recovering (I think it is not), one thing is for sure, the European current account surplus is alive and well and is probably the reason for the euro's strength, irrespective of what is actually happening to the European economy.

As the chart below shows, the current account surplus of the Euro 17 area net transactions show a surplus of about 250 billion euros on a twelve month basis.

(click to enlarge)

Source: ECB

At the same time, with the Fed still expanding its balance sheet and the ECB on the sidelines, this upward pressure might escalate in the future.

In fact, the current account surplus is about 300 billion euros of we include all 28 euro states. For those who don't know it, that is even bigger than China's current account surplus. And while Europe has a surplus, the U.S. has a $400 billion account deficit.

While the Forex market accounts for about $3 trillion dollars in daily volume, this volume is among speculators. Even they can't go against the tide of cross border flows for more than several days or weeks. Eventually cross border flows will force speculators to take their loses and change their positions.

There is actually only one way that I see -- in the absence of a current account deficit -- that can weaken the euro. That is, for the market to start to discount ECB intervention to help member states to tackle a sovereign debt problem, that might instigate investors to move money out of the eurozone (to prevent monetary dilution). In the absence of that, most likely the euro will continue upwards, until the ECB devices to intervene to bring it down.

One other thing thing that might bring the euro down, might be an ECB pan-European effort to shore up banks. And that might be around the corner. But even then this might prove temporary, if the European current account surplus continues.

Source: Euro Strength Most Likely To Continue