**Macro Markets: Emergence of a Weaker US Dollar**
*Authored by Ven Ram, Bloomberg Markets Live Reporter*
The financial world is paying close attention to developments in the US economy as recent trends suggest potential weakness in the US dollar. While the dollar has been remarkably strong during the past year, aided by a resilient US economy and higher interest rate differentials, there are emerging signs that the greenback may face headwinds in the medium term. This evolution is shaped by shifting macroeconomic indicators, expectations of Federal Reserve policy changes, and broader global currency dynamics.
This in-depth look dissects the driving forces behind the potential weakening of the US dollar, how currency markets are adjusting to this possibility, and what traders and investors need to watch over the next several months.
—
**1. Softening US Economic Momentum**
Recent economic data point to a cooling US economy, suggesting that the tailwind supporting the dollar may be losing momentum.
– **Growth disappointment**: The first-quarter GDP figures came in significantly below expectations. While the consensus had projected robust growth, the actual reading showed slower expansion, confirming that domestic momentum is weakening.
– **Household spending deceleration**: One major factor weighing on GDP growth is less vigorous household consumption, which was a key driver of the post-pandemic recovery. With savings balances depleting and inflation remaining sticky, US consumers are becoming more cautious.
– **Business expectations are moderating**: Surveys such as the ISM and purchasing managers’ index (PMI) indicate that business sentiment is losing strength. Supply chain issues have largely normalized, but forward-looking orders have not picked up accordingly.
– **Labor market softening**: While unemployment rates remain relatively low, job growth has become more moderate. The previously unshakable tightness of the labor market is easing, reducing pressure on the Federal Reserve to remain aggressive with rate hikes.
These developments suggest that the US economy no longer has the same level of relative strength compared to global peers, which has historically supported inflows into dollar-denominated assets.
—
**2. Fed Policy Outlook: From Hawkish to Neutral**
Another critical driver of dollar strength—the Federal Reserve’s hawkishness—may be shifting course.
– **Ending the hiking cycle**: The Fed kept interest rates unchanged in its recent meetings and has signaled a potentially less restrictive stance. Policy guidance is increasingly data-dependent, meaning softening inflation and labor market data will likely tilt the Fed toward rate cuts.
– **Fed funds futures pricing**: Markets are already anticipating as many as two rate cuts by the end of the year, with the first cut possibly coming as early as September. While these expectations can fluctuate, they highlight that upward pressure on the dollar from monetary policy may be reversing.
– **Inflation cooling**: Recent inflation data suggests that price pressures are softening. Although headline inflation remains above the Fed’s 2% target, the month-on-month readings have moderated, and shelter inflation—a key component—has also started to ease.
– **Real interest rate decline**: As inflation remains sticky and nominal interest rates trend lower, real yields on the US dollar may lose their attractiveness compared to other currencies, particularly from regions where central banks are keeping policy tighter.
All of this implies that the dollar may face structural weakening as supportive interest rate differentials erode.
—
**3. Global Currency Dynamics Are Shifting**
Several global developments are driving renewed interest in other currencies, eating into the dominance of the US dollar.
– **Euro resilience**: The euro has recovered against the dollar recently as the European Central Bank maintains a cautious approach to rate cuts. The eurozone’s economic indicators have shown signs of stabilization, boosting investor confidence in the currency.
– **Japanese yen intervention risk**: The yen has recently flirted with record lows, prompting Japanese authorities to step in verbally and potentially consider actual interventions. If the Bank of Japan allows bond yields to rise further, this would reduce interest rate differentials and stem yen
Read more on EUR/USD trading.