Small lessons from the recent euro-dollar skirmishes

We investigate in this paper the skirmishes that the US dollar and the euro had from 2007 to 2011 and, in particular, the two distinct sharp falls that the single currency had in 2008 and 2010. We basically consider how impulses coming from domestic money markets impact on the USD/EUR exchange rate through the Eurocurrency market. Our findings show that the cycles in the spreads in the LIBOR rates have a bearing on the direction of change in the spot exchange rate in a way which is different from that predicted by the interest rate parity. The exposure of the value of reserve currencies to the vagaries of the outside circulation in the Eurocurrency and FX markets is only one of the many different policy implications of the current arrangement of the international monetary system. In the final part of the paper we also discuss some of those tied to the very existence of the international money market and to competition among old and emerging global currencies and financial centres.