Reduced Stimulus And A Stronger Dollar
The US Federal Reserve appears to be letting up on its stimulus plans. Many expect interest rates to rise driving up the value of the dollar. What will be the effects of a reduced stimulus and a stronger dollar as the Federal Reserve backs off? The dollar gained against currencies across the board after the last meeting of the Fed board of directors. It appears that the consensus of the Fed is that we have had enough stimuli and that the economy can start to run on its own. Not only do Forex currency rates for the dollar benefit as a safe haven currency these days but also the dollar benefits from an expected rise in interest rates. The news of this shift of opinion by the Fed took many Forex traders by surprise but the market reacted quickly with a broad advance of the dollar. The only currency that the USD did not rise against was the Yen.
The prospect of reduced stimulus and a stronger dollar drove the greenback up. Looking ahead we need to see if the economic expansion continues. The US unemployment rate has fallen steadily for almost a year. The non-farm payroll report comes out shortly and if it is positive it will have proven the Fed member correct. Reduced stimulus and a stronger dollar may also have effects overseas. Much liquidity in the American economy tends to find its way into off shore investments. The prospect of less liquidity in the USA may have adverse effects on emerging economies. Forex traders saw this and it helped drive the dollar up and other currencies down. The combination of Euro Zone fiscal austerity and higher rates at bond auctions has also helped push the Euro downward.
A currency that could be hit especially hard with reduced stimulus and a stronger dollar is the Australian dollar. Reduced demand for commodities from China has hit the AUD hard. Australia has had two months in a row of trade deficits and may well drop interest rates to stimulate its own economy. Low rates as well as a continuing trade deficit could spell trouble for the Aussie dollar. The Australian dollar had risen over the last years to a position of greater value than the US dollar. But, in the last month it has lost five cents on the dollar to the greenback and fell almost a cent on the fed news of reduced stimulus and a stronger dollar.
As United States manufacturing expands the dollar strengthens. Unfortunately, if the dollar strengthens too much it will hurt exports and the US manufacturing sector. The question will be just how far the dollar will rise if the Euro Zone does not recover, the Yuan falls due to the collapse of a real estate bubble, or the world flocks to the dollar as a result of problems in Syria, Iran, or elsewhere in the Middle East. As Forex traders know, interest rates and monetary policy are not the only factors to govern the value of a currency.