Brief Dollar Outlook Update

September 28, 2021

The eleven-week hiatus since the previous currency market essay in this space partly reflects the summer season, when day-to-day market action tends to be less representative of underlying fundamentals. The length of time without a currency essay also was justified by a secular trend toward lessening dollar volatility, which had been a major theme highlighted in that July 15th article. A broad and varied range of economic and geopolitical uncertainties were cited as factors dampening swings in the dollar’s major relationships, but the article still recommended not taking the U.S. currency’s hegemony within the international monetary system for granted.

Since July 15th, the DXY weighed dollar index has appreciated 1.1%, and the rise from an inter-period low on July 29th has been 2.0%. Dollar/euro, which carries a weight in DXY of 57.6%, also rose 1.1%. Against the yen, sterling, and Canadian dollar — with a collective weight of 34.6% in DXY — the dollar since mid-July has risen by 1.4%, 2.1%, and 0.6%. Greater dollar appreciations occurred of 3.6% against the kiwi, 2.5% relative to the Australian dollar, and 1.8% relative to the Mexican peso, but none of these are included in DXY. The Chinese yuan stands unchanged from its July 15th level and likewise is not embodied in the DXY measure.

Covid trends are considerably more disturbing than in mid-July. In the United States on September 27th, for instance, about 118 thousand new cases were identified, and slightly more than 2 thousand people died, but back on July 15 just 28k new cases and 280 deaths had been reported. That being said, the U.S. is managing to cope with Covid this time without imposing restrictions that crimp activities severely. The country seems poised to record GDP growth of around 6% in 2021. Two industrialized economies that have been less insulated against Covid have been those of Australia and Great Britain, whose currencies posted above-average declines since mid-July.

The dollar likely benefited this summer from shifting Fed guidance in preparation for bond buying tapering that will likely start during the final quarter of this year. In conjunction with elevated U.S. inflation that is likely to persist longer than presumed back in the spring, the ten-year Treasury yield climbed 22 basis point above its mid-July level, which is more than the incremental advances of 14 and 2 basis points in the 10-year German bund and Japanese JGB yields, but less than that of 33 bps in the 10-year British gilt. The European Central Bank has also made tapering overtures, while the Bank of Japan hasn’t dropped the easing bias from its forward guidance.

Looking just ahead, the likeliest shock to the dollar’s modest strengthening lies in the possibility that Congress will not authorize a rise in the debt ceiling, which could precipitate a failure to meet all debt service obligations. The U.S. brand of democracy already absorbed a large blow from last January’s Republican-inspired attack on the Capitol building. A debt default would be an even greater blow and would also undermine the image of America’s economy severely. Over the summer, I’ve fielded a number of questions about whether to take the threat of a debt default seriously. Initially, I cautioned calm, pointing out that games of chicken over the debt ceiling have happened many times in the past but always ended with Congress doing the right thing. To be candid, my confidence in a happily responsible ending has been eroded greatly by the many other toxic and delusional American political behaviors, and I no longer would be surprised to see the government default. And if default indeed is in the cards, that’s just the kind of development that could push investor doubt in the United States past a point of no return.

Copyright 2021, Larry Greenberg. All rights reserved. No secondary distribution without express permission.

 

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