- Rising political risks in France are tying the ECB’s hands.
- The US economy is capable of withstanding high interest rates, which is strengthening the dollar.
The US dollar has reached an 18‑month high, driven by robust macroeconomic data, a further rise in bond yields, and a rebound in oil prices. Revised second‑quarter GDP growth rose from 1.6% to 2.2%, underscoring that the US economy is expanding faster than its European counterpart and can sustain higher rates. Personal consumer spending jumped 0.9% in August, beating expectations, yet core inflation remained steady at 3.0% year‑on‑year. However, markets soon recognized that rates stay well above the Fed’s 2% target.
Goldman Sachs estimates that oil exports from the Middle East, including grey‑market flows, hit 23.3 million barrels per day, surpassing 2025 levels. The bank cites sharply lower global inventories and escalating geopolitical risks as the main reasons Brent prices are not falling. Prolonged elevated prices raise the prospect of feeding into core inflation, while a higher chance of aggressive Fed tightening bolsters the dollar further.
Meanwhile, European assets are under pressure. EUR/USD broke below the 1.13 consolidation zone, reaching its lowest point since May 2025, amid accelerating inflation and a deteriorating trade balance. Raising rates—the ECB’s primary tool—risks harming growth. ECB officials, including President Christine Lagarde, note few second‑order effects so far. Her experience as former French finance minister, IMF chief during the euro crisis, and long‑time ECB president informs a cautious stance, recognizing that higher rates would lift European bond yields and worsen debt financing.
The challenges are especially acute in France, the eurozone’s second‑largest economy. A slowdown could widen the budget deficit from 5.1% to 5.6% of GDP in 2026. With the government pushing austerity and parliamentary parties on both sides reluctant to implement it, a clash between the executive and legislative branches appears inevitable. Investor flight has widened the yield spread between French and German bonds to 130 basis points—the highest since the European debt crisis after a muted rise over the past 12 years. This acceleration in debt‑market selling adds further pressure on EUR/USD.
Higher inflation now works against the euro, eroding its purchasing power while the central bank is forced to watch. It may take several quarters for the euro’s weakness to revive the economy via more competitive export prices.
