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Title: Barclays: USD Faces Downside Risks Amid Policy Shifts and Global Economic Divergences
As global markets recalibrate their outlook on monetary policy, economic recovery, and geopolitical dynamics, the US dollar (USD) remains at the center of it all. Recent movements in currency markets suggest growing tensions around the USD as investors attempt to balance shifting fundamentals in the United States with evolving trends in the Eurozone and other major economies.
Barclays has provided critical insight into the macroeconomic themes that could drive further USD weakness in the near term. Their research outlines a confluence of factors signaling downside potential for the greenback, especially as the Federal Reserve’s tightening cycle nears its end.
Summary of Barclays’ Main Views
Barclays analysts have presented a clear framework for understanding what could influence USD performance going forward. Their key themes revolve around the following:
• Global rate convergence is reducing the yield advantage once enjoyed by the USD.
• Economic surprises in the U.S. are weakening while data elsewhere, including in the Eurozone, is showing signs of resilience.
• Shift in market focus from rate hikes to rate cuts by the Federal Reserve could undermine USD sentiment.
• A declining USD aligns with positioning and flow dynamics in foreign exchange markets.
Let’s explore each of these factors in detail, supported by the latest data and global context.
1. Declining U.S. Yield Advantage
The U.S. dollar has long enjoyed a support base from relatively higher real interest rates compared to other major economies. However, that premium is narrowing. The market’s perception of how long the Fed will keep rates elevated has changed significantly over the past few months.
• The Fed’s projected path for interest rates has flattened. Futures markets are starting to price in the possibility of rate cuts in late 2024.
• Other central banks, including the European Central Bank (ECB) and Bank of England (BoE), while also potentially near the peak of their tightening cycles, are not expected to pivot toward easing as swiftly as the Fed.
• As the divergence narrows, the USD’s interest rate differential erodes, leading to weaker greenback performance.
Overall, as this relative rate advantage declines, FX markets are likely to take cues from other drivers, such as growth momentum and geopolitical stability.
2. Shift in U.S. Growth Momentum
Recent U.S. economic data has shown signs of moderation, especially after a strong first half of the year. Consumer spending is still robust, but growth is slowing in several sectors such as manufacturing and housing.
• U.S. ISM manufacturing and services indices have come in below expectations in recent months, signaling a cooling in activity.
• Job growth remains solid overall, but wage pressures are diminishing, decreasing inflationary risks that previously justified a hawkish Fed stance.
• Retail sales figures, previously a strength, have also shown signs of fatigue.
• Inflation data, while still above target, is trending downward on a year-over-year basis.
In contrast, the Eurozone has started to see more encouraging data on growth and business confidence. According to Barclays, this could set up conditions for the euro to recover against the USD over the medium term.
3. Changing Federal Reserve Stance
A major underpinning of USD strength through 2022 and early 2023 was the aggressive tightening campaign by the Federal Reserve. However, as the rate hiking cycle nears its conclusion, markets have started to price in potential easing in 2024.
• Federal Reserve Chair Jerome Powell and other FOMC members have signaled a “data-dependent” approach but have subtly acknowledged nearing the end of policy tightening.
• Market-based expectations suggest the probability of a rate cut in the second half of next year is increasing.
• Less aggressive monetary policy could reduce overall demand for USD assets, particularly Treasury securities, which
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