The Gulf Time Newspaper One of the finest business newspapers in the UAE brought to you by our professional writers and editors.
The premise that the dollar is the world’s safe haven is a constant in this ever-changing world. It’s certainly proving true this year. The US Dollar Index, known as the DXY and measuring the dollar’s value against the world’s major currencies, is at its highest since July 2020 and looks poised to surge even more, fueled by eyewateringly high US inflation and a resurgent economy. Both increase pressure on the Federal Reserve to bring forward interest-rate hikes, in turn raising the relative attractiveness of the dollar.
The currency market rule of thumb with a stronger greenback is that it hurts economies — particularly in fragile emerging markets — that are reliant on commodity imports priced in dollars. The flipside of this is that commodity and hydrocarbon-exporting economies receive a foreign exchange boost. But big exporting powerhouses such as the European Union and Japan also benefit when their currencies are relatively cheaper to the dollar. The European Central Bank is certainly not protesting the slow, steady weakness of the euro as it tries to recover from the pandemic.
It’s a little more complex for the US economy: Despite a huge embedded trade deficit, the economic impact is somewhat offset by the dollar being the world’s reserve currency. The Fed avoids giving any views on the value of the dollar when setting interest rate policy. But its unwavering dovishness on keeping policy rates near zero and still buying tens of billions of bonds each month looks to be increasingly tough to justify. Further strong labour market reports could tip the balance.
Nothing in life is simple. So the Fed has to steer the narrow course between not leaving low rates too late and then having to overdo hikes to quash the inflation beast — or indeed withdrawing stimulus too sharply and causing a repeat of the 2013 or 2018 taper tantrums. Former New York Fed president Bill Dudley believes the Fed has left it too late and is between a rock and a hard place but the 10-year US Treasury yield at 1.6% shows the bond market is still a believer in the central bank’s skillsets.
The recent consumer price index increase of 6.2% is a clear-and-present danger: If this miles-above-target inflation persists, it will only hasten the Federal Open Market Committee’s timing in bringing its QE taper to a swifter conclusion.
A stronger-than-expected October non-farm payroll release just lends weight to the premise that the economy is recovering faster from the pandemic, fueled by yet more multi-trillion dollar fiscal stimulus programs and a Fed balance sheet fast approaching $9 trillion. It’s not hard to conclude this may well bring forward the first rate hike.
Higher yields will make the dollar more attractive. Increased global uncertainty just speeds it up.
—Bloomberg