Since the beginning of this year, market turmoil and the risk aversion boom triggered by the conflict between Russia and Ukraine have led to a flood of money into US capital markets, and policy deviations between central banks have also exacerbated interest rate differentials between the US and the eurozone, fuelling the dollar and exacerbating the fall of the euro.

So far, the euro has hovered around $1.056 against the dollar, falling steadily from about $1.22 in June last year. Earlier this week, the euro even fell to just over $1.03.

It is the first time in 20 years that the euro has approached parity against the dollar, and some hedge funds are already betting on it.

Over the past month, traders have bet heavily on the parity of the euro against the dollar through foreign exchange options, and put options that bet heavily on the euro have become the most popular foreign exchange derivatives.

Francesco Pesole, currency strategist at ING Groep NV, said the euro itself is not attractive at the moment. He also acknowledged that the strength of the dollar and market volatility meant that the euro could eventually reach parity against the dollar.

But currency strategists remain divided over whether the euro and the dollar will eventually fall to parity, what that will mean for investors and the global economy, and whether the trend will continue.

Why is it close to parity?

First, due to market concerns about the conflict in Ukraine, soaring inflation, supply chain problems, slowing economic growth and tighter monetary policyInvestors turned to traditional safe havens and the dollar strengthened on the back of risk aversion.

Second, the narrowing of the gap between the two currencies is also caused by differences between central banks on monetary policy.The Fed raised its benchmark interest rate by 50 basis points earlier this month, its second hike this year in an effort to rein in inflation, which is at a 40-year high.

Powell, the Fed chairman, said on Tuesday that the Fed would not hesitate to raise interest rates until inflation fell to manageable levels and reiterated its commitment to bring inflation closer to the Fed's 2 per cent target.

In sharp contrast to the Federal Reserve and the Bank of EnglandDespite record inflation in the eurozone, the ECB has been slow to raise interest rates.

A week ago, Vincent Mortier, chief investment officer of Amundi, Europe's largest asset manager, expected the ECB to give priority to controlling government borrowing costs rather than fighting inflation, the Financial Times reported.The decision will put the ECB further behind the Fed in fighting inflation and raising interest rates.Markets also overestimated the ECB's ability to raise interest rates because of concerns about the recession and rising borrowing costs in some debt-burdened members of the euro zone.

However, the ECB has hinted that it will end its asset purchase programme, and policymakers have recently taken a more hawkish tone.

Under what circumstances will parity be reached?

On Wednesday, Sam Zief, global head of foreign exchange strategy at JPMorgan Chase & Co Private Bank, said in an interview with CNBC.Parity between the euro and the dollar requires "a reduction in the euro zone's growth forecast relative to the US, similar to what we did after the conflict between Russia and Ukraine." "

Zief said:

Is it possible? Of course, but this is certainly not our basic situation, and even so, the parity of the euro against the dollar will be the worst-case scenario.

The ECB is likely to move away from negative interest rates, and fixed-income outflows from the euro zone are falling-meaning the euro now looks like"incredibly cheap.". I don't think many customers will look back two or three years later and think it's a bad idea to buy euros at an exchange rate of less than $1.05.

He pointed out that the Fed's aggressive rate-raising cycle and quantitative tightening over the next two years were already reflected in the dollar, a view shared by Stephen Gallo, head of European foreign exchange strategy at BMO Capital Markets.

Gallo expressed to CNBC via emailIt is not just the prospect of major policy differences between the Federal Reserve and the ECB that affects the exchange rate of the euro against the dollar.

This is also the evolution of the euro's core balance of payments flows and the possibility of more energy supply shocks in the future, which are also dragging down the euro.

According to the data we track, we see no sign that leveraged funds have significantly increased their short positions in the euro against the dollar.This leads us to believe that the weakness of the euro is due to the deterioration of underlying core liquidity.

Gallo believes that achieving parity of the euro against the dollar will require the ECB to maintain "policy inertia" throughout the summer, keeping interest rates unchanged and Germany's total ban on fossil fuel imports from Russia, which will lead to energy rationing.

At present, the economic outlook for Europe is not optimistic. Russia continues to face off with EU countries over the supply of natural gas to the European continent, increasing the possibility of disruptions in natural gas supplies. The International Monetary Fund has cut its forecast for economic growth in the euro zone to 2.8% in 2022.

"if the ECB faces the worst-case scenario of a rising risk of recession in Germany and a further sharp rise in prices (that is, terrible economic stagnation), it is not surprising that ECB policy continues to maintain inertia," Gallo said.

The euro may weaken further

While many analysts remain sceptical about whether the euro will fall to parity with the dollar, some market participants still believe the euro will weaken further.

After the Fed's June 2021 meeting, interest rate differentials relative to the US had an impact on the euro, at which Fed officials issued an increasingly aggressive pace of policy tightening.

Jonas Goltermann, senior market economist at Capital Macro Capital Economics, said in a report last week thatThe recent hawkish shift in the ECB still lags behind the Fed and is not enough to offset the rise in inflation expectations in the eurozone since the beginning of 2022.

Capital Macro expects the Fed's policy path to be similar to that reflected by the market, but GoltermannThe ECB's policy path is not expected to be as radical as expected, which means that nominal interest rate spreads between the eurozone and the US will change further, though by much less than they were in June last year.

The deteriorating terms of trade in the eurozone, the global economic slowdown and the intensification of future turmoil, the fragility of bond markets in the periphery of the eurozone has made the euro more vulnerable to fiscal tightening, further exacerbating the view that the euro is weaker.

Goltermann said:

As a result, contrary to most other analysts, we expect the euro to weaken further against the dollar.

We expect the euro to reach parity against the dollar later this year and then bounce back to $1.10 in 2023, when the headwinds for the eurozone economy ease and the Fed's tightening cycle ends.

The excessive weakness of the euro threatens price stability in the eurozone, increasing the cost of dollar-denominated imports and commodities and further exacerbating already high price pressures in the eurozone, ECB policy maker Francois Villeroy de Galhau said on Monday.

The dollar is now "the most expensive currency in the world"

The dollar index has risen about 8 per cent since the start of the year. Deutsche Bank said in a report on Tuesday that even taking into account the difference in interest ratesAt present, the "risk aversion" premium of the dollar has also reached the "extreme ceiling".

George Saravelos, co-head of global currency research at Deutsche Bank, thinks a turning point is just around the corner. He pointed out that we are now at a stage where further deterioration in financial conditions "weakens Fed tightening expectations", while the rest of the world, particularly Europe, will continue to tighten policy significantly.

Saravelos said:

We don't think Europe is about to enter a recession, and contrary to market belief, European economic data will continue to outperform the US.

Deutsche Bank's valuation monitoring showsThe dollar is now "the most expensive currency in the world", and its long position against emerging market currencies is at its highest level since the peak of the epidemic, according to its foreign exchange position indicator.

Saravelos concluded:

All of this sends the same message: the dollar is too expensive.Our forecasts suggest that the euro against the dollar will return to $1.10 in the coming months, rather than falling to parity.

Gallo also pointed out that with regard to the Fed's role in all this, he believes the Fed will be shocked by the trend of the euro against the dollar in the range of 0.98 to 1.02 and the strength of the dollar. "I can foresee that this trend of the euro against the dollar will cause the Fed to suspend or slow its pace of tightening. "