US Dollar Hits One-Month Low Amidst Inflation Concerns
The US dollar recently suffered its worst performance of the month, experiencing a three-day loss against major currencies, such as the Japanese yen and British pound, as reported by CNBC. The dollar index, which compares the value of the dollar in relation to a basket of six global currencies (Euro, Swiss Franc, Japanese yen, Canadian dollar, British pound, and Swedish króna), showed regression; falling to 93.997 from its one-year peak of 94.634.
Why is the dollar weakening?
The falling value of the dollar can be attributed to steadily rising inflation rates in the United States. Stimulus checks provided during the COVID-19 crisis promoted economic activity, but also increased demand, driving up prices for many products. According to the US Department of Labour, the Producer Price Index grew by 8.6% in October, with a rate that matched September’s historic highs. The Producer Price Index measures how much businesses charge for the goods and services they sell.
Some of the other reasons for the increase in prices include shortages in raw materials and workers. Since spring this year, workers in the United States have been quitting their jobs at record rates, kickstarting a phenomenon known as The Great Resignation. The mass exodus forced companies to spend more on recruitment, wages, and benefits, which has caused a hike in prices for the products they sell.
Who does this impact?
A weakening dollar is not always a bad thing. When the dollar is weak, consumers outside the US have more purchasing power to obtain goods and services manufactured in the United States. Additionally, forex traders now have the opportunity to bet on the dollar. A guide to forex featured on FXCM notes that it’s common for forex traders to buy currencies while prices are low, then sell them when their value rises. Should the Federal Reserve take steps to correct inflation in the United States, the value of the dollar could rise again, allowing forex traders to generate more profit.
How will the dollar improve?
Should the Federal Reserve increase interest rates, they could discourage borrowing, limit consumer spending, and thus slow the increase of prices. However, interest rates that are too high may discourage spending, which can undermine the recovery process for the US economy. The Federal Reserve now faces the challenge of controlling inflation while ensuring that the country stays at a healthy level of spending.
The impact of COVID-19 on currency prices
Today’s weakening dollar is another byproduct of the financial turbulence caused by the COVID-19 crisis. During the onset of the pandemic, many currencies fell due to slow economic activity. A reduction in mobility caused interruptions in the supply chain, leaving manufacturers with material shortages. Mass lay-offs reduced consumer spending left lots of businesses in financial ruin. The pandemic was so impactful that it wasn’t just emerging currencies that were affected; the “safe haven” currencies, such as the US dollar were also affected.
Although the US economy is still recovering, it still has a long way to go before it can shake off the effects of the pandemic. After all, the factors related to the fall of the currency were rooted in the pandemic’s aftermath. Inflation was caused by the very stimulus packages used to kickstart the economy. The worker shortage contributing to the inflation was, too, partly caused by the freedom stimulus packages provided.
Hopefully, a proactive approach from the Federal Reserve will restore inflation to a healthy rate and keep the US dollar strong. In the meantime, traders dealing with the dollar should do their due diligence to track its price movements and understand where each rise and fall is rooted.