One of the economic bright spots that is being masked against the backdrop of the front-and-center economic news – inflation – and all the other looming issues like the threat of recession, is the silver lining of the strong U.S. dollar. While good for our economy and our individual pocketbooks, it has a profound effect on the global economy, our allies and our trading partners.
Current Uptrend. The current uptrend in the dollar is the longest since the currency was taken off the gold standard. As has been widely reported in the popular business press, periods of strengthening or weakening of the dollar don’t necessarily coincide with the economic cycles. Despite the threat of a global economic slowdown, the dollar is having a once-in-a-generation surge of supremacy over the world, a run that has lasted 11 years and realized a 40% gain on a real, trade-weighted basis.
And remember, the dollar’s role as the primary currency used in global trade and finance means its fluctuations have widespread impacts. The currency’s strength is being felt in fuel and food shortages in third world countries, in Europe’s record inflation, and in Japan’s exploding trade deficit.
Attempts from policy makers in China, Japan and Europe to defend their currencies are largely failing in the face of the dollar’s unrelenting rise. The dollar has recently blown through a key level against the Chinese yuan, with one dollar buying more than 7 yuan for the first time since 2020. Japanese officials, who had previously stood aside as the yen lost one-fifth of its value this year, began to fret publicly that markets were going too far.
Leading Benchmark. The ICE U.S. Dollar Index futures contract is a leading benchmark for the international value of the U.S. dollar, and the world’s most widely recognized traded currency index. The index, which measures the currency against a basket of its biggest trading partners, has risen more than 14% in 2022, on track for its best year since the index’s launch in 1985.
The euro, Japanese yen and British pound have fallen to multi-decade lows against the greenback. And emerging-market currencies have likewise been battered: the Egyptian pound has fallen 18%, the Hungarian forint is down 20%, and the South African rand has lost 9.4%.
The dollar’s rise this year is being fueled by the Fed’s aggressive interest-rate increases, which has encouraged global investors to pull money out of other markets to invest in higher-yielding U.S. assets. Meanwhile, dismal economic prospects for the rest of the world are also boosting the greenback. Europe is on the front lines of an economic war with Russia, while China is facing its biggest slowdown in years as a multi-decade property boom unravels.
Stronger Dollar. A stronger dollar makes the debts that emerging-market governments and companies have taken out in U.S. dollars more expensive to pay back. Emerging-market governments have $83 billion in U.S. dollar debt coming due by the end of next year, according to data from the Institute of International Finance that covers 32 countries.
The currency’s rise has compounded pain in smaller nations by making crucial food and fuel imports priced in the U.S. dollar more expensive, and many countries have been forced to tap into stockpiles of dollars and other foreign currencies to help finance imports and stabilize their currencies. But it isn’t just developing economies who are struggling to cope with weaker currencies; in Europe, the euro’s weakness is amplifying a historic increase in inflation brought on by the war in Ukraine and a resulting surge in gas and electricity prices.
In the short run, a weaker dollar is possible, as Europe’s governments absorb the financial threat to their economies from energy prices and foreign central banks rush to catch up with the Federal Reserve on rate rises. But in the longer run, the dollar should remain strong for a considerable period; that translates into greater buying power, which is good for our economy.
Pierre G. Villere serves as president and senior managing partner of Allen-Villere Partners, an investment banking firm with a national practice in the construction materials industry that specializes in mergers and acquisitions. He has a career spanning almost five decades, and volunteers his time to educate the industry as a regular columnist in publications and through presentations at numerous industry events. Contact Pierre via email at [email protected]. Follow him on Twitter @allenvillere.