How Much Did the Rise of Energy Prices Contribute to the EUR/USD Exchange Rate Reaching Parity in 2022?

Abstract

In July 2022, the EUR/USD exchange rate hit parity for the first time in 20 years, meaning that 1 USD = 1 Euro. Prior to this, the Euro was stronger relative to the USD. During this time, Oil and Gas prices were also rising due to the Russia-Ukraine war as Russia is a main exporter of energy to the Euro Area. In my research, I want to analyze how much this increase in the energy prices, due to the geopolitical environment, pushed the EUR/USD to reach parity in 2022. I used monthly data from January 1999 to February 2023 for the EUR/USD exchange rate, Brent oil price, Henry Hub gas price, US interest rate, and Euro Area interest rate. For the analysis, I conducted a vector autoregression to conclude that an increase in the energy prices over an 8-month period led to the exchange rate to change by -0.0115 and the energy prices explain 26.42% of the decrease in the EUR/USD exchange rate. Therefore, as the Euro Area was reliant on Russian energy, it relatively depreciated and as the US is a net exporter of energy it relatively appreciated, helping bring the exchange rate to parity. Thus, the increase in energy prices did contribute to the EUR/USD exchange rate to reach parity to a certain extent, but there are other factors that impacted this exchange rate