The resurgence of the US dollar is presenting challenges for central banks and governments worldwide, prompting them to take measures to mitigate the impact on their currencies.
In an environment where the American economy's resilience is pushing back the expectations for a cut in US interest rates, the US dollar has appreciated against almost every major currency in 2024. This unexpected strength has led to increased interventions from countries like Japan, Turkey, China, and Indonesia, aiming to stabilize their currencies. Even Sweden and India are feeling the pressure.
The situation echoes the events of 2022 when countries like Switzerland and Canada expressed concerns over their depreciating currencies amidst rising inflation. The strong dollar's impact was particularly harsh on emerging economies, contributing to Sri Lanka's unprecedented default. Countries with significant foreign debt, such as the Maldives and Bolivia, are currently at high risk if the dollar's strength continues.
According to Helen Given, a forex trader, the dominance of the US dollar is putting other central banks in a difficult position, especially as many are nearing the end of their tightening cycles. The situation seems to have no easy resolution in sight.
Contrary to earlier predictions of a US recession, the country is now seeing benefits from a strong labor market, positive consumer sentiment, and government subsidies for manufacturing. These factors have led investors to revise their expectations regarding the Federal Reserve's interest rate cuts.
Market participants have adjusted their forecasts to less than three quarter-point reductions in 2024, a significant shift from the initially anticipated 150 basis points of easing. This adjustment has contributed to a more than 2% increase in a Bloomberg dollar index this year, adversely affecting currencies like the Indian rupee and the Nigerian naira, both of which have hit record lows.
Stephen Miller, a veteran market consultant, highlights the ongoing trend of US exceptionalism, making buying the dollar the most favorable trade currently.
Central banks worldwide are on the defensive, with Japan signaling potential bold actions to support the yen and Indonesia actively intervening in various markets to uplift the rupiah. With the yuan at the lower end of its trading band, there is anticipation of more decisive actions from China. The yuan's performance is also affecting other Asian currencies, including the rupee.
Some countries are turning to monetary policy adjustments to support their currencies. Turkey, for instance, unexpectedly raised interest rates last month. The depreciating value of currencies is a concern as it increases the cost of imports, leading to inflation and potentially triggering capital flight, which can harm domestic investment and growth.
Rajeev De Mello, a global macro portfolio manager, notes that central banks' interventions in the currency market can only provide temporary relief. The effectiveness of such interventions is questionable if doubts about the Federal Reserve's rate cuts persist.
Despite expectations for the Fed to ease its policy, not all are convinced this will alleviate currency market pressures. Central banks globally are preparing for a synchronized rate-cutting cycle, yet the US's relatively high policy rate may continue to support the dollar's strength.
Michael Cahill, a forex analyst, and Ed Al-Hussainy, a rates strategist, both recognize the challenges and the likelihood of the dollar's continued dominance in the global currency market.
