Stronger than the economy
The euro trades near 1.15 against the dollar in mid-2026, with a year-to-date average closer to 1.17 and a range that has run from 1.145 to just above 1.20. That is a firm currency for an economy whose largest member is barely growing, whose labour market has cracked, and whose export surplus is shrinking. The paradox resolves once you separate the cyclical from the flow forces. The euro is being held up by the rate and policy side - a hawkish ECB, a fiscally credible Germany, a dollar that has lost some of its exceptionalism - while the trade and growth side pulls the other way. The exchange rate is the balance of the two, and right now policy wins.
What holds the euro up
Three forces support the euro. First, the ECB's June hike to 2.25 percent and its conviction framing narrowed the rate differential with a Fed that markets no longer see as decisively more hawkish. Second, Germany's fiscal turn paradoxically supports the currency: a credible AAA sovereign deploying a generational investment programme is a magnet for capital in a way that austerity never was, and the prospect of stronger medium-term euro-area growth lifts the currency's structural appeal. Third, the dollar has lost some of its safe-haven and growth premium as US tariff policy injects its own uncertainty and the post-Hormuz risk environment calms.
The German fiscal expansion is doing for the euro what years of ECB orthodoxy could not: giving global capital a positive reason to own euro assets rather than merely a yield. A growing, investing, AAA-anchored core is a currency story, not just a bond story.
What weighs it down
Against the policy support sits the deteriorating flow picture. Germany's goods trade surplus fell to €200.5 billion in 2025 from €242.9 billion in 2024, and the monthly surplus has narrowed further into 2026. US tariffs have hit the largest export category - autos to the United States fell 17.8 percent - and exports to China have fallen even as imports have risen. A shrinking trade surplus mechanically reduces the structural demand for euros from trade settlement, and a weaker external sector caps the cyclical case for the currency. If the policy support fades while the trade drag persists, the euro has further to fall than its current level implies.
| Force | Direction | Strength |
|---|---|---|
| ECB rate differential | Supportive | Strong |
| German fiscal credibility | Supportive | Structural |
| Dollar de-exceptionalism | Supportive | Moderate |
| Trade surplus | Negative | Rising drag |
| US tariffs / autos | Negative | Moderate |
| Growth differential | Negative | Moderate |
Where the balance breaks
The near-term balance favours stability around 1.13 to 1.18 as policy support offsets flow drag. The asymmetry depends on which force moves first. If the ECB is forced to pause and cut as the energy shock fades while US data stay firm, the rate support erodes and the euro drifts toward the low end of its range. If instead the German fiscal multiplier surprises to the upside and euro-area growth re-rates while US tariff uncertainty weighs on the dollar, the euro can break above 1.20. For German exporters the level matters: a euro above 1.20 compounds the tariff hit to competitiveness, while a euro back near 1.10 would provide welcome relief to the very sectors under most pressure.
Our base case is a euro that holds a firm range through 2026, with the policy support proving more durable than the market expects because the ECB's reaction function is now demonstrably hawkish. The risk to that view is a faster-than-expected ECB pivot once the energy shock has clearly passed.