Global | EUR/USD Equilibrium Exchange Rate: A Long-Term Perspective

Summary

We estimate the EUR/USD equilibrium exchange rate using a holistic approach that distinguishes between the strengths of the euro and the dollar. Our analysis shows that the current misalignment is due to an overvalued dollar, while the euro remains close to equilibrium, with its role as a reserve currency slightly reduced.

Key points

• Key points:
• Two-Phase Approach: We separate EUR/USD movements into USD strength and euro positioning and identify key drivers behind each.
• Drivers of USD Strength: The U.S. dollar is primarily influenced by global financial conditions (GFCI) and Federal Reserve policies.
• Euro Near Equilibrium: While the euro’s role as a reserve currency has slightly declined, it remains close to equilibrium with its value also shaped by the ECB’s policy stance.
• Current Misalignment: The EUR/USD rate at the start of 2025 reflects an overvalued dollar rather than euro weakness, mainly due to tight global financial conditions.
• Equilibrium Scenarios: Baseline (1.20 USD per euro: Normalization of financial conditions). Subdued financial conditions (1.10 USD per euro: Persistent financial uncertainty keeps the dollar strong). Trade Tensions (1.05 USD per euro: On top of the previous scenario, increased trade disputes further strengthen the dollar).

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