Oxford Economics sees more dollar strength and more financial pressures on other currencies, which is due in part to timely policy tightening by emerging markets (EM) and, consequently, lower interest rate differentials.
Some advanced economies (AE) currency weakness is certainly due to idiosyncratic risks, from the Ukraine war that put the euro and all European currencies under pressure, to the ensuing gas crisis and European fiscal policy responses to it, which placed the British pound under stress last month.
September's sterling weakness raised the issue of BoE foreign reserve adequacy, a rare discussion for a reserve currency and almost certainly unfounded. Low AE foreign currency reserves are a norm, but the privilege, it ought not to be forgotten, rests on prudent macroeconomic policy.
Fundamentals, moreover, do not point to structural changes in support of dollar strength. While interest rate differentials give muscle to the dollar, the widening US current account deficit and cross-border financial outflows speak in favour of a weaker greenback.
Should Europe see further inflationary pressures and fight back with forceful fiscal measures, stronger policy tightening may be necessary down the road, widening the policy rate differential and complicating the risk assessment. That eventually would bring an end to the strong dollar, but would likely lead to greater financial upheavals before that were to happen.
Should uncertainty abate or become manageable (whether because of the Ukraine crisis entering a calmer phase, which seems unlikely, or by the European gas crisis being resolved sooner than expected, also unlikely albeit less so), there is reason to believe that the fiscal push in Europe could provide tailwinds for European currencies.
“Until that happens, though, we're looking at more dollar strength and more financial pressures on everybody else.”
When considered in a global context, EM currencies are holding up well against the dollar, some due to terms-of-trade improvements, some due to tighter policy or lack of proximity to the European crisis.
AEs, on the other hand, though traditionally less sensitive to dollar strength, are now facing a slew of financial pressures – on their currencies, their bond yields, and even their sovereign debt sustainability.
“On balance, while interest rate differentials support the strong dollar, global financial flows do not. In the short run, more instability in Europe – especially higher energy prices and aggressive fiscal packages that fight it – may ensure the dollar maintains its recent strength and even appreciates further,” Oxford Economics said.
Some advanced economies (AE) currency weakness is certainly due to idiosyncratic risks, from the Ukraine war that put the euro and all European currencies under pressure, to the ensuing gas crisis and European fiscal policy responses to it, which placed the British pound under stress last month.
September's sterling weakness raised the issue of BoE foreign reserve adequacy, a rare discussion for a reserve currency and almost certainly unfounded. Low AE foreign currency reserves are a norm, but the privilege, it ought not to be forgotten, rests on prudent macroeconomic policy.
Fundamentals, moreover, do not point to structural changes in support of dollar strength. While interest rate differentials give muscle to the dollar, the widening US current account deficit and cross-border financial outflows speak in favour of a weaker greenback.
Should Europe see further inflationary pressures and fight back with forceful fiscal measures, stronger policy tightening may be necessary down the road, widening the policy rate differential and complicating the risk assessment. That eventually would bring an end to the strong dollar, but would likely lead to greater financial upheavals before that were to happen.
Should uncertainty abate or become manageable (whether because of the Ukraine crisis entering a calmer phase, which seems unlikely, or by the European gas crisis being resolved sooner than expected, also unlikely albeit less so), there is reason to believe that the fiscal push in Europe could provide tailwinds for European currencies.
“Until that happens, though, we're looking at more dollar strength and more financial pressures on everybody else.”
When considered in a global context, EM currencies are holding up well against the dollar, some due to terms-of-trade improvements, some due to tighter policy or lack of proximity to the European crisis.
AEs, on the other hand, though traditionally less sensitive to dollar strength, are now facing a slew of financial pressures – on their currencies, their bond yields, and even their sovereign debt sustainability.
“On balance, while interest rate differentials support the strong dollar, global financial flows do not. In the short run, more instability in Europe – especially higher energy prices and aggressive fiscal packages that fight it – may ensure the dollar maintains its recent strength and even appreciates further,” Oxford Economics said.
