US Dollar Index slumps below 98.50 on trade war woes
- The US Dollar Index tumbles to 98.30 in Monday’s early European session, down 0.92% on the day.
- Trump will put pressure on tariff exemption seekers to limit China trade.
- Fed’s Powell indicated tariffs justify Fed caution for now.
The US Dollar Index (DXY), an index of the value of the US Dollar (USD) measured against a basket of six world currencies, falls to near 98.30, the lowest since March 2022. The heightened uncertainty around US President Donald Trump’s tariffs and concerns over global economic growth amid the US-China trade war undermine the USD across the board.
On April 2, Trump proposed "reciprocal tariffs" on dozens of nations. While his administration paused levies for some countries, Trump escalated its trade war with China. Beijing has warned its trading partners against succumbing to US pressure to restrict trade with China in exchange for exemption from Trump’s reciprocal” tariffs.
Over a week, Trump's tariffs on Chinese goods rose from 54% to 104% and now 125%, adding to previous duties levied before Trump's second term. China has retaliated by raising additional duties on all US imports to 84%. Any signs of rising trade tension between the world’s two largest economies could drag the Greenback lower.
On the other hand, the hawkish remarks from the US Federal Reserve (Fed) might cap the downside for the DXY. Fed Chair Jerome Powell said last week that escalating tariffs could fuel inflation while undermining growth, complicating the path for interest rate decisions. Powell noted, “For the time being, we are well positioned to wait for greater clarity before considering any adjustments to our policy stance.”
Meanwhile, San Francisco Fed President Mary Daly said on Friday that while she is still comfortable with a couple of interest rate reductions this year, rising risks of inflation mean the Fed may need to do less, especially given the uncertainty over Trump's trade policy.
US Dollar FAQs
The US Dollar (USD) is the official currency of the United States of America, and the ‘de facto’ currency of a significant number of other countries where it is found in circulation alongside local notes. It is the most heavily traded currency in the world, accounting for over 88% of all global foreign exchange turnover, or an average of $6.6 trillion in transactions per day, according to data from 2022. Following the second world war, the USD took over from the British Pound as the world’s reserve currency. For most of its history, the US Dollar was backed by Gold, until the Bretton Woods Agreement in 1971 when the Gold Standard went away.
The most important single factor impacting on the value of the US Dollar is monetary policy, which is shaped by the Federal Reserve (Fed). The Fed has two mandates: to achieve price stability (control inflation) and foster full employment. Its primary tool to achieve these two goals is by adjusting interest rates. When prices are rising too quickly and inflation is above the Fed’s 2% target, the Fed will raise rates, which helps the USD value. When inflation falls below 2% or the Unemployment Rate is too high, the Fed may lower interest rates, which weighs on the Greenback.
In extreme situations, the Federal Reserve can also print more Dollars and enact quantitative easing (QE). QE is the process by which the Fed substantially increases the flow of credit in a stuck financial system. It is a non-standard policy measure used when credit has dried up because banks will not lend to each other (out of the fear of counterparty default). It is a last resort when simply lowering interest rates is unlikely to achieve the necessary result. It was the Fed’s weapon of choice to combat the credit crunch that occurred during the Great Financial Crisis in 2008. It involves the Fed printing more Dollars and using them to buy US government bonds predominantly from financial institutions. QE usually leads to a weaker US Dollar.
Quantitative tightening (QT) is the reverse process whereby the Federal Reserve stops buying bonds from financial institutions and does not reinvest the principal from the bonds it holds maturing in new purchases. It is usually positive for the US Dollar.