A historic moment for the euro: can it displace the dollar?

The euro rose nearly 14% against the dollar this year, largely due to the policies of President Donald Trump's administration. The U.S. president's actions have caused investors to question the irreplaceability and steadfastness of the U.S. currency. Sergey Romanchuk, a financier and member of ACI's Foreign Exchange Committee, discusses whether the euro will be able to displace the dollar on the pedestal of reserve currency No. 1.

On May 26 this year, ECB chief Christine Lagarde announced that the euro could be a viable alternative to the dollar, helping to strengthen the financial system and security architecture of the eurozone bloc. 

Such ambitions have existed since the beginning of the single European currency in 1999. But they have stalled because of the difficulties in making integration processes a reality: the eurozone, for example, still lacks a deep single market for bonds similar to the U.S. Treasury bond market. As a result, the euro's share in the reserves of other countries' central banks grew very slowly, reaching a peak of 28% only in 2009, just before the European debt crisis;

It was investors' concerns about the reliability of euro-denominated bonds that became the main factor that stopped the process of increasing the share of euro in reserves - at the moment it is about 20%;

But now we have felt the «first breeze» of concerns about the reliability of the recently benchmarked securities - U.S. Treasuries;

For a long time, the dollar played a systemically important role, essentially performing the functions of a single world currency. But the return to power of Donald Trump and the subsequent radical change in the vision of the future political and economic role of the U.S. in the world have raised doubts that the dollar will be able to continue to fulfill the most important and, in many respects, exclusive functions: a universal international means of payment, a unit for measuring the value of goods and services on the international market, a currency for capital market transactions and for transactions in derivative financial instruments.

U.S. Treasuries are no longer a risk-free asset - their yields have become higher than the yields on interest rate swaps, which means that credit risk has emerged. Simply put, investors are ready to lend money to the US, but at a higher interest rate;

This means that servicing the gigantic U.S. budget deficit becomes even more expensive. 

The Trump factor adds to this: it is difficult for investors to assess future prospects in an environment of inconsistency between stated goals and actions, unexpected decisions, a policy of threats and disregard for the interests of foreign partners. If previously favorable treatment of foreign investors was not questioned, now the entire fiscal policy, under which the financing of the budget deficit went largely at their expense, is being revised in the opposite direction. Trump has announced trade duties against dozens of countries, and the «Big Beautiful» bill he is promoting proposes to increase the deficit and debt.    

At the same time, the increase in duties forced the Fed to slow down its rate cut due to the expected pro-inflationary effect. This increased the cost of short-term borrowing, which is largely determined by the level of interbank market rates, which is directly regulated by the Fed;

As a result, due to rising public debt and increasing costs of servicing it, Moody's was the last of the Big Three to downgrade the bond rating by one notch - from the highest Aaa to Aa1 in May 2025. 

Owning dollar assets could become disproportionately expensive. The U.S. budget bill has a new clause (Section 899) that allows for a 20% tax on non-resident income. This sparked heated debate, and in June, the U.S. Treasury Department proposed to remove the provision from the bill. However, the bill itself has yet to pass. And the introduction of other «creative» measures to replenish the budget at the expense of foreign investors does not seem so improbable in the future;

The risks of holding dollar assets have increased significantly, especially for foreign investors, but to what extent exactly can the euro benefit from this situation?

The problem for investors is that there is simply no similar alternative investment proposition. However, this does not mean that the role of the dollar will remain the same as before;

Even a small change in the behavior of market participants can lead to large price movements, which, in fact, is demonstrated by the dynamics of the euro-dollar exchange rate, which has grown significantly in the period after Trump's inauguration. It was the euro that began to react to the American risks as a currency into which capital «flees» along with gold, which has become popular - the main asset, the reserves of which have been increased by the central banks of various countries in recent years;

Trump's policies are unlikely to change much, and pressure on the dollar is likely to continue. 

Another sensitive topic was  his relationship with Fed chief Jerome Powell, whom the US president accuses of complete incompetence and demands an immediate reduction in interest rates. It did not come to an immediate dismissal, but the market was spooked and the dollar fell significantly during Trump's attacks on Powell. It is already quite clear that after his term ends in May 2026, the Fed Chairman will be replaced by a more dovish and convenient one. And this will be an additional factor of dollar weakening - due to lower interest rates and partial loss of independence of the U.S. Central Bank from the executive branch;

JPMorgan predicts the European currency will reach $1.2 this year, but that's still a long way from its 2008 record. Back then, amid the U.S. mortgage crisis, the euro broke through the $1.6 mark in trading. ECB Vice President Luis de Guindos told Bloomberg TV on July 1 that the current level of the exchange rate or even its rise to $1.2 per euro is acceptable to the regulator, but further appreciation could already be a problem. The ECB is monitoring both the exchange rate and its dynamics. 

I believe that technically the euro could well continue to rise and reach the $1.3 level by the end of 2025. Yes, currency movements are difficult to predict over the long term, but tectonic shifts in U.S. policy, together with euro-friendly European policies, create strong incentives for such a shift;

Can the euro become a universal means of payment for international contracts?

Low inflation and a large economy may well make the euro a private savings currency. The most rational behavior for private investors in terms of long-term investments is to save in the currencies in which they plan to spend in the future. And in this part, Europe has a lot to offer - from real estate to a wide variety of goods, especially in the luxury part;

There do not seem to be many limitations to making the euro a unique means of payment: Europe's banking system is well developed, payment systems function reliably, and after all SWIFT, the main system for transmitting financial messages, is a Belgian legal entity;

A weakness for the euro market in terms of reserve allocation is the «bank-centricity» of Europe compared to the US.  

Historically, banks have been the main intermediaries of business finance and household savings in Europe. This model implies that companies are highly dependent on bank loans, while private investors (households and organizations) prefer to keep money in bank deposits;

Even after decades of capital market development, European economies remain far more dependent on bank lending than on bond or equity markets.

The reason is the lack of reliable fixed-income instruments. There have long been policy initiatives (such as the creation of a Capital Markets Union in the EU) to diversify the financial system, but progress has been slow and banks continue to play a dominant role. According to the International Capital Markets Association's (ICMA) March 2025 report, bank loans account for 85% of all corporate debt in the eurozone. By comparison, in the US, bonds account for 65% of corporate debt.

To strengthen the role of the euro as an international currency, it is obviously necessary to increase bond issuance. And here, as they call it, «the process has begun». There are already programs of the European Commission with NextGenerationEU, involving the issue of bonds for 712 billion euros by 2026 for the green and digital transition, and SAFE - for the joint purchase of weapons, which also involves the issuance of debt instruments for 150 billion euros until 2030. In both cases, the issue is a single EU bond issue. 

Germany, too, is preparing to issue bonds. Its parliament exempted military spending from the constitutional debt limit. This will allow borrowing a total of €500 billion in 2025-2029. France plans to raise defense spending to about 3.3 percent of GDP by 2028, which would require tens of billions in additional borrowing each year. 

Overall, the euro area's debt architecture has changed significantly since 2020. Large-scale common European bonds have emerged, and national governments have introduced specialized bond-issuing programs for key policy priorities - recovery, defense, climate, etc. 

These initiatives have provided an influx of record amounts of funding, with the European Commission alone planning to borrow around €160 billion in 2025, and the combined debt of major eurozone countries continuing to grow.

The current geopolitical situation has indeed given Europe a unique chance to strengthen the euro's position in the international arena. Thanks to the political turmoil in the U.S. and the weakening of unconditional confidence in the dollar, the euro has a window of opportunity. 

The Trump administration has given Europe a chance to bring the euro closer to the status of a competitor of the dollar, but European leaders will have to overcome their own «political timidity» and dare to take steps that have long been postponed;

In case of readiness for integration reforms, the euro can indeed take a more significant place in the global financial system (up to a comparable level with the dollar), without such efforts it will not happen, and it will not be possible to seriously displace the positions of the American currency;

In the foreseeable future, a compromise scenario is most likely: the euro will increase its role, perhaps substantially, but will not displace the dollar, but will coexist with it as the second key reserve currency;

As Lagarde emphasized, Europe intends to seize the historic moment, but «the euro will not become global by default - it has yet to earn that status.»

This article was AI-translated and verified by a human editor