The euro surged above 1.20, hitting a new high for 2021. The European Central Bank's policy is caught in a dilemma.

The Euro exchange rate has climbed to its highest level since 2021, posing a policy dilemma for the European Central Bank. Driven by the weakness of the US dollar, the Euro broke through the key level of 1.20 USD this week, with options markets indicating that there is still room for further upside in the future. Short-term bullish bets are nearing the most optimistic level since April of this year, while long-term option pricing has reached a near six-year high. The strengthening Euro may put the European Central Bank in a difficult position. Currency appreciation may curb the pace of price increases, ultimately forcing officials to relax policies to maintain inflation targets. Some analysts believe that this will also bring more attention to calls for the Euro to have a stronger international status. Chris Turner, Head of Foreign Exchange Strategy at ING Group, said, "Euros strength has always been one of the threats to the neutral policy prospects of the European Central Bank." He added that recent price trends "indicate that the doves within the central bank have reason to worry, as a strong Euro could lead to inflation rates below target levels." There are signs that the upward trend may continue. Foreign exchange traders familiar with trading conditions have revealed that macro investors and hedge funds have increased their Euro bullish option positions this week. Data from the US depository trust and clearing corporation shows that about one-tenth of Euro options traded in the past week are betting that the Euro will rise above 1.25 USD by the end of June. Steven Barrow, Head of G10 Strategy at Standard Bank, believes that in time, the Euro exchange rate could rise to the "1.25 to 1.30 USD range." He added that this would require a strong European economy and significant inflows of funds into Eurozone assets, and pointed out that US trade threats and a shift in Chinese exports could collectively prompt action in the region. Within the European Central Bank, there are signs that policymakers are closely monitoring exchange rate movements. ECB Governing Council member Francois Villeroy de Galhau reiterated that officials do not have exchange rate targets but consider the impact of a stronger Euro when making policy decisions. Before US President Trump made comments about a weak dollar (which further boosted the Euro) on Tuesday, Austrian Central Bank Governor Martin Koth expressed caution that the ECB must be wary of further Euro appreciation. Last year, ECB Vice President Luis de Guindos said that if the Euro broke through 1.20 USD, it could pose problems for policymakers. Valentin Marinov, Head of Foreign Exchange Strategy at Credit Agricole CIB, believes that the next developments are crucial. If the strong Euro is not accompanied by capital inflows into European stocks and bonds, the central bank may see the appreciation as a problem. At the same time, this episode may also draw more attention to efforts to promote the Euro as an alternative to the US dollar. Marinov said, "If Lagarde calls for enhancing the global status of the Euro next week while paying more attention to the recent aggressive rise of the Euro against the US dollar, I wouldn't be surprised." He added, "To some extent, the ECB should be on guard against unintended consequences." However, not all observers expect that a strong exchange rate will affect monetary policy. Roberto Cobo Garcia, Head of Foreign Exchange Strategy at BBVA in Madrid, Spain, said, "As long as there is no disorderly movement, we believe that a strong Euro will not have a dovish impact like in early 2025." Strategist Wen Ram said, "The strong Euro is causing some concern among certain individuals at the European Central Bank, but this is not enough to prevent it from continuing to rise... The unpredictable policies of the United States are causing investors to sell the dollar, and given concerns about the Japanese government's fiscal situation, the European currency is better positioned to absorb capital inflows."