Dollar Blues — Confidence in the US Dollar Weakens

Dollar Blues — Confidence in the US Dollar Weakens

Dear Reader,

Every morning, I sit in front of the computer with a cup of coffee to read the news, but also to check on the exchange rates.

The value of the AUD against the Euro…USD…gold. But I also keep a close watch on the USD rate against several other currencies.

It’s something that rooted after growing up in Argentina where the US dollar has such a crucial role in the economy.

I mean, for Argentineans, protecting wealth from inflation — which Argentina has battled against for years — means having US dollars.

Argentineans have saving accounts in US dollars; they buy property in US dollars and buy US dollars before travelling abroad. For Argentina’s economy, it’s crucial to have enough reserves in USD to pay off debt.

We even have our own kind of US dollar: the dollar blue.

What on Earth is a dollar blue?

It’s basically the value of the US dollar against the Argentinean peso in the black market. While it’s illegal, you will see the valuation published in some of the country’s major newspapers. Obviously, this isn’t an ‘official’ valuation as the dollar blue is outside of the financial market.

But the dollar blue has been around for a few years now and is usually higher than the official exchange rate. In a way, that gap is a measure of confidence on the Argentinean peso.

It’s one of the things that influences currencies, confidence, along with interest rates.

The US dollar is telling quite a story though.

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Confidence in the US Dollar

While the US Federal Reserve was one of the only developed central banks to raise rates after 2008, the Fed has responded quite aggressively to the pandemic. They’ve lowered rates to zero, and have restarted unconventional policies to increase the money supply.

As I’ve been saying for a while now all this money printing has consequences.

For one, it causes inflation.

We may not have seen much consumer inflation, but we’ve certainly seen inflation in assets.

I mean, you only need to look at the stock market to realise this. It’s completely decoupled from the economy. The NASDAQ, for example, is now up over 24% for the year.

Even with the market crash in March and unemployment shooting to over 14% in April, US markets have gone on to surpass their pre-pandemic highs.

But if you are outside the US you probably haven’t seen all these gains. They’ve been watered down by the US dollar depreciating against other currencies.

The strength of the US dollar has been on a decline since March.

The AUD/USD is up about 30% since the March lows.

The DXY, which measures the US dollar against a basket of six major currencies (Euro, Japanese yen, British pound, Canadian dollar, Swedish krona and Swiss franc) is down around 9% since March.

It’s interesting because the US dollar is not just any old currency. It plays quite a role in the global economy as the world’s reserve currency.

Since the pandemic, the US Fed has flooded the system with US dollars. There are lot of US dollars. I mean, this is quite the opposite to what usually happens during a crisis, when money usually disappears.

And a weaker dollar has implications around the world making US exports cheaper and imports into the US more expensive, which will push inflation higher for the US.

It’s something to watch in the wake of the Fed’s Jackson Hole meeting earlier this month where they said they will be keeping interest rates at near zero while allowing inflation to go higher than their 2% inflation target.

That is, they will be keeping rates low for a while, even if inflation picks up. This brings real interest rates into negative territory, good news for gold.

But back to exchange rates.

As I said, currency exchange rates are also based on confidence. And the European Central Bank (ECB) gave confidence in the Euro a little shake during their meeting last week.

From the Financial Times:

Currency wars are back. The eurozone’s central banker in chief, Christine Lagarde, on Thursday made a nod to the strength of the euro, saying policymakers “will carefully assess incoming information, including developments in the exchange rate”. The European Central Bank president added later that the stronger single currency was “discussed extensively” during deliberations. It is the first time that the ECB has referenced the exchange rate in its policy statement since 2018. If Ms Lagarde hoped that merely referencing the currency’s strength would be enough to take the wind out of the euro, she will have been disappointed: the euro rose against the dollar.

Europe’s interest rates are already at record lows, the strength of the Euro will affect their exports and push down inflation. A concern for an ageing continent.

They aren’t the only one concerned with the strength of the US dollar.

Another one to watch is the Hong Kong dollar. As the Financial Times reports in a different article, Hong Kong’s central bank has already intervened 40 times this year to keep the currency peg against the US dollar to prevent it from strengthening.

Since 1983, Hong Kong Monetary Authority keeps the currency within the band of HK$7.75 and HK$7.85 against the US dollar.

It will be interesting to see what happens next, especially if the Fed keeps pumping in more money for the recovery.

It may weaken confidence in the US dollar.

And it will be interesting to see what happens to gold in this scenario which has already been appreciating against the US dollar, but also against major currencies.


Selva Freigedo Signature

Selva Freigedo,
For The Daily Reckoning Australia

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