- The US Dollar Index gives up initial gains amid anxiety among investors with US-China trade negotiations in process.
- A positive outcome from the Sino-US trade talks could bring some certainty in the US economic outlook.
- The Fed is not expected to cut interest rates before September policy meeting.
The US Dollar Index (DXY), which tracks the Greenback’s value against six major currencies, gives back its early gains and flattens around 99.00 during European trading hours on Tuesday. The USD Index retreats as investors turn anxious amid going trade talks between top negotiators from the United States (US) and China in London.
During European trading hours, US Commerce Secretary Howard Lutnick told reporters that trade talks with Beijing are going well and negotiations will likely continue all the day, Reuters reported.
The impact of the outcome of trade negotiations between world’s two largest economies will be significant on the US Dollar. A positive outcome from the US-China meeting could bring back investors’ confidence in the safe-haven appeal of the US Dollar (USD), assuming that it will provide some certainty over the US economic outlook.
The Greenback has been hit badly in past few months as the imposition of new economic policies by US President Donald Trump and erratic announcements on the tariff policy led investors doubting the credibility of the US Dollar.
On the domestic front, the US Consumer Price Index (CPI) data for May will be the key trigger for the US Dollar, which will be released on Wednesday. As measured by the CPI, the headline and core inflation are expected to have grown at a faster pace of 2.5% and 2.9%, respectively. Such a scenario would force traders to pare vets supporting the Federal Reserve (Fed) to reduce interest rates in the near-term.
According to the CME FedWatch tool, the US central bank is unlikely to cut interest rates before the September monetary policy meeting.
US Dollar FAQs
The US Dollar (USD) is the official currency of the United States of America, and the ‘de facto’ currency of a significant number of other countries where it is found in circulation alongside local notes. It is the most heavily traded currency in the world, accounting for over 88% of all global foreign exchange turnover, or an average of $6.6 trillion in transactions per day, according to data from 2022.
Following the second world war, the USD took over from the British Pound as the world’s reserve currency. For most of its history, the US Dollar was backed by Gold, until the Bretton Woods Agreement in 1971 when the Gold Standard went away.
The most important single factor impacting on the value of the US Dollar is monetary policy, which is shaped by the Federal Reserve (Fed). The Fed has two mandates: to achieve price stability (control inflation) and foster full employment. Its primary tool to achieve these two goals is by adjusting interest rates.
When prices are rising too quickly and inflation is above the Fed’s 2% target, the Fed will raise rates, which helps the USD value. When inflation falls below 2% or the Unemployment Rate is too high, the Fed may lower interest rates, which weighs on the Greenback.
In extreme situations, the Federal Reserve can also print more Dollars and enact quantitative easing (QE). QE is the process by which the Fed substantially increases the flow of credit in a stuck financial system.
It is a non-standard policy measure used when credit has dried up because banks will not lend to each other (out of the fear of counterparty default). It is a last resort when simply lowering interest rates is unlikely to achieve the necessary result. It was the Fed’s weapon of choice to combat the credit crunch that occurred during the Great Financial Crisis in 2008. It involves the Fed printing more Dollars and using them to buy US government bonds predominantly from financial institutions. QE usually leads to a weaker US Dollar.
Quantitative tightening (QT) is the reverse process whereby the Federal Reserve stops buying bonds from financial institutions and does not reinvest the principal from the bonds it holds maturing in new purchases. It is usually positive for the US Dollar.