Why is the value of the US dollar so strong right now?

The value of the US dollar against other major currencies has reached its highest level since the early 2000s. Even as recession fears rise and the economy shows signs of slowing, the dollar continues to rise.

The dollar, which has been on the rise for about a year, has matched the value of the euro this month for the first time in two decades. The Japanese yen also fell sharply against the dollar.

A strong dollar can make products imported to America cheaper and make overseas travel less expensive for American travelers. Large companies operating in multiple countries, such as Johnson & Johnson, have recently complained that rising dollar could hurt their profits as overseas sales lose value when converted back to dollars and become less competitive with local businesses. as their products become more expensive overseas.

Economic policymakers and Biden administration officials said the strong dollar could even help reduce inflation in the US, which has been at the fastest pace in four decades. Economists say the impact would be relatively small, but still positive, as many families are struggling to afford essentials such as food, rent and gas.

A strong dollar also has broad implications for the global economy, devaluing currencies in other countries. The value of the dollar also matters a lot to emerging economies, as it exposes those countries to a greater risk of default on their debts.

Here are answers to four key questions you may have about dollar strength.

1) Why is the dollar extremely strong right now?

The basic explanation for the strong dollar boils down to this: While things may be weird in the US economy right now, a combination of factors has made the dollar a better bet for investors than most other currencies.

The dollar has grown largely because the Federal Reserve is on track to raise interest rates faster than other large countries, said Kenneth Rogoff, a professor of economics at Harvard University and former chief economist at the International Monetary Fund. .

The central bank started raising interest rates in March after keeping them near zero for much of the pandemic, and on Wednesday made another big rate hike, raising rates by three-quarters of a percentage point. Higher interest rates make the dollar more attractive to investors, as it means they would get a higher return.

The Russian invasion of Ukraine also strained European economies and sent natural gas prices skyrocketing, making the US economy seem healthier by comparison, Rogoff said.

“Everyone is talking about a recession, but the US economy is doing better than many other economies,” he said.

The dollar is acting as a “safe haven,” he said Vassili Serebriakov, foreign exchange strategist at UBS, an investment bank. As growth prospects for the world economy worsened, investors became more concerned and poured into the dollar, investing their money in safer assets like US treasury bonds, Serebriakov said. This in turn caused the value of the currency to rise.

“More recently, it has less to do with the US and more to do with a global recession,” Serebriakov said.

2) What does this mean for Americans?

Among other things, a stronger dollar helps curb inflation by making imports cheaper, said Marc Chandler, chief market strategist at Bannockburn Global Forex, a trading company. Foreign sellers are more inclined to lower prices as the dollar becomes more valuable, which results in lower prices for the imported products Americans buy.

But with prices as high as now, that may not provide much relief to consumers. Chandler said dollar strength could reduce 0.2 to 0.3 percent of headline inflation, a small amount from the 9.1 percent rise in consumer prices a year ago.

“Wages are not keeping up with inflation,” Chandler said. “So a stronger dollar really does that much for it? Probably not.”

There are other bright spots. It is commonly known that a stronger dollar is good for American travelers, who can get more for their money in other countries. Americans are already finding it easier to finance European vacations and purchase luxury goods and fine wines in other countries. Some American buyers are even looking for homes in countries like France, as the weaker euro means it’s cheaper for them to buy property in Europe than it was a year ago.

Although a strong dollar is mostly favorable to American consumers, it can have more negative impacts on companies that operate businesses in other countries because the revenue and profits earned in local currencies are worth less in dollar terms and their products become more expensive overseas. , reducing demand.

Exports also become more expensive overseas, which could harm American companies that export goods or services. Workers in sectors such as agriculture or manufacturing could also be affected if their jobs depended on exports.

Overall, however, many Americans may not notice the effects of a stronger dollar in their daily lives, said David Wessel, director of the Brookings Institution’s Hutchins Center on Fiscal and Monetary Policy. Compared to many European countries, the United States is more self-sufficient, producing much of what Americans consume, Wessel said.

Wessel noted that a stronger dollar can make real estate in the United States more expensive for foreign buyers, making those investments less attractive to them. That could help alleviate some price pressures in the housing market, a positive result for Americans looking to buy homes, he said. But in general, people in other countries are more likely to feel the impact of a stronger dollar than Americans.

“If you go to other countries, people are fixated on the exchange rate,” Wessel said. “While my guess is that most Americans have no idea whether the dollar is strong or weak.”

3) What does this mean for other countries?

For other countries, a strong dollar drives import prices up, which can create inflation in those regions. The impact can also be brutal for emerging economies.

When US interest rates are low, global investors tend to invest more in emerging markets or the economies of nations that are transitioning to developed economies. But when rates start going up in the US and the dollar goes up, money starts flowing out of those countries, Wessel said.

Some developing countries are better equipped to handle it, since they have more reserves or their exports are priced in dollars and increasing in value, but other countries may struggle. Sri Lanka’s economy, for example, is starting to crumble as it faces a mountain of debt and not enough US dollars to pay for imports of essential goods.

Countries that borrow heavily in dollars may suffer as it becomes more difficult to repay as the dollar goes up and their currencies depreciate, said Mark Sobel, US president of the Official Monetary and Financial Institutions Forum and former senior. Treasury Department official.

“This means that the amount of dollars they need to get their hands on to make repayments increases,” Sobel said.

4) Where does the dollar go from here?

Currency markets are extremely difficult to predict, so it is difficult to say whether the dollar will continue to rise or fall in the coming months. Rogoff, the Harvard economics professor, said the dollar could go down if the war in Ukraine “miraculously” ceased, easing the pressure on European economies and pushing their currencies higher.

The dollar could also fall if the US goes into recession and the Fed cuts interest rates to stimulate the economy, which some analysts predict could happen next year. An economic downturn in the US could also make investments in US assets and companies less attractive, which could result in the dollar falling, Rogoff said.

On the other hand, if inflation remains stubbornly high and the Fed has to keep raising interest rates more than expected, the dollar could continue to rise. It could also rise if the European Central Bank, which raised interest rates for the first time in more than a decade last week, were to back down and cut rates, Rogoff said.

“It’s a very uncertain environment and it will likely be difficult to predict the exchange rate,” Rogoff said.

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