The US dollar hits its highest level in more than 2 years
The U.S. dollar hit its highest level since March 2020 on Monday and is on track for its best month since January 2015, buoyed by expectations that the Federal Reserve will need to raise interest rates aggressively to rein in the inflation.
The dollar index, which tracks the US currency against six others including the euro and the pound, rose 0.8% to a high of 101.86. The index has risen about 12% over the past year.
The gains come at a time when the Fed is expected to tighten policy more aggressively than other G-10 central banks. Higher interest rates and higher yields on US government debt have attracted foreign investors to US Treasuries. The value of the dollar increases as investors sell assets denominated in local currencies in favor of investments denominated in dollars.
Bets on increasingly tight Fed policy continued as inflationary pressures persisted: Russia’s invasion of Ukraine drove up commodity prices and rising coronavirus cases in China has caused further blockages that threaten to further disrupt supply chains. Beijing health officials reported that several neighborhoods would be closed on Monday, sparking fresh fears about the global economy.
The futures market expects the Fed to raise its key interest rate to 2.7% by the end of 2022 – against expectations of around 0.8% at the start of the year – including three increases of half a point in the coming months.
The dollar generally benefits when US interest rates rise and the economy is doing better than other countries. The dollar, the global currency reserve, also benefits from global recessions or times of turmoil – such as the Russian invasion of Ukraine – as investors seek safe haven investments.
This tendency for the US currency to outperform when the global economic environment is weak or at risk and when the US outperforms its peers has been dubbed the “dollar smile”.
Demand from investors looking for a safe haven has persisted, said John Doyle, vice president of trading and trading at Tempus Inc. That means both ends of the smile are currently helping to support the dollar.
“The smile of the dollar works for all intents and purposes. Investors pile into the dollar, driving it higher in sync with yields. And they downgrade growth estimates for the rest of the global economy,” said Karl Schamotta, chief market strategist at Corpay.
This dollar boom comes as its primacy as the world’s reserve currency has been challenged by Russian sanctions.
But investors argue that for now there is no single alternative to the dollar, and its strength in today’s market makes it less likely that investors will abandon the currency for political reasons at this time.
“At the end of the day, this is really a US-centric market,” said Mazen Issa, senior currency strategist at TD Securities, as the most drastic shift in monetary policy in response to inflation came from the Fed.
“When you look globally, the central bank most likely to lead this charge, and perhaps even redefine what tightening cycles might look like, is the Federal Reserve,” he added. .
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