2 May 2019

The Strong US Dollar is Here to Stay

The US dollar remains in the midst of a prolonged period of relative strength vis-à-vis nearly all other major global currencies.  This period of strength began in 2014, when the dollar surged against nearly all other currencies as the US economy strengthened and as monetary policy changed dramatically in the US.  Furthermore, as the global economy has been beset by uncertainty in recent years, the US dollar, viewed by many as a safe haven investment, has strengthened while most other major currencies have weakened.  Likewise, the US economy, despite some hiccups, has been quite stable when compared with other major economies in recent years.  Finally, there are still no serious challengers to the US dollar’s role as the world’s leading global currency, yet another factor that has allowed that currency to retain its strength for so long.  While this could one day change, there is little to suggest that the US dollar’s strength, or its role in the global economy, will change anytime soon.

The chart above shows the change in exchange rates for a number of the world’s leading currencies against the dollar since the beginning of 2014, when the latest exchange rate cycle began. This chart shows that, with only a couple of exceptions, most of the world’s major currencies have depreciated by a significant amount against the US dollar over the past five years and four months.  In fact, only the currencies of Asia’s three largest economies (China, Japan and India) have managed to maintain much of their value against the US dollar during this long-term cycle, with the yuan and rupee representing the currencies of the world’s two leading emerging growth markets and with the yen remaining a leading safe haven currency along the lines of the US dollar.  In contrast, currencies with a higher degree of perceived risk, including the euro and many currencies from poorer performing emerging markets, have depreciated much more sharply against the US dollar since 2014. What these longer-term exchange rate fluctuations are highlighting is the importance of being perceived as a safe haven currency and the attraction of being the currency of a high-growth economy.

This second chart shows the same currencies and the changes in their exchange rates against the US dollar, but this time from the beginning of 2018, or over the past 16 months.  This is considered to be the beginning of the latest near-term exchange rate cycle, one that has seen the US dollar extend many of its earlier gains against most other major currencies.  This time, there are a couple of currencies that have actually appreciated against the dollar, including the yen (another safe haven currency) and the Mexican peso, which rebounded from a sharp depreciation in the previous years.  Elsewhere, most major currencies have continued to depreciate against the US over the past 16 months, particularly those currencies that come from countries that are more exposed to the geopolitical and trade risks that have been facing the global economy during this period.  Again, the relative stability of the US economy and investors’ growing concerns with the health of the global economy have led to a strengthening of the US dollar during this latest cycle.

The US dollar is forecast to retain its strength for at least the next couple of years.  This is due to a number of factors.  One key factor is the fact that the global economy appears to be entering a period of relative instability and less robust growth, a development that will favor safe haven investments such as the US dollar.  Among the factors that are driving this instability and the forecast of slower growth are:

  • a potential sharp decline in economic growth in many European economies
  • the chaos surrounding Brexit
  • uncertainty about the health of the Chinese economy
  • the lingering threat of a global trade war

All of these factors will result in the US dollar remaining an attractive investment over the next couple of years, while other currencies will be pushed downwards by a combination of investor concerns and a desire to improve export competitiveness at a time of domestic weakness. As a result, we continue to forecast a strong US dollar until late 2020 or early 2021 at the earliest. 

Despite the current strength of the US dollar, challengers to its longer-term global pre-eminence are nevertheless emerging.  The most immediate challenge continues to come from the euro, a currency that many European leaders had hoped would by now be a serious challenger to the US dollar’s global dominance.  However, the euro has been severely mismanaged and the Eurozone’s economic outlook is worsening, raising doubts that the euro will ever be able to mount a major challenge to the dollar.  A much more serious challenger to the US dollar’s long-term dominance is the Chinese yuan, which has the advantage of being driven by the world’s most-populous country and an economy that will eventually overtake the US in terms of output. If China moves to make the yuan a fully convertible international currency, its attractiveness to investors will be obvious.  However, it remains to be seen if and when Beijing will take this step.  If it does, the yuan will be in a strong position to become Asia’s dominant currency, a development that could end up producing currency blocs, with different currencies dominating trade and investment in various regions.  However, for now and for the next few years, the US dollar will remain the world’s leading currency, and its recent strength is likely to continue for at least the next few years.