The US Dollar (USD) is recovering a touch on Thursday from its depreciation after the latest Consumer Price Index (CPI) showed the disinflationary trend resumed in April. Pieces of the puzzle are starting to fall into place with the recent string of data pointing to some easing on all fronts in the economy, and the softer CPI was the cherry on the cake. Markets responded to evidence of declining inflation popping the champagne bottle, with the S&P 500 reaching new all time highs.
However, Federal Reserve Bank of Chicago President Austan Goolsbee and Federal Reserve Bank of Minneapolis President Neel Kashkari called for keeping rates steady for a while longer, warning that market expectations about interest-rate cuts might swing too far.
On the economic data front, Thursday’s calendar is full of releases, although lighter in terms of importance. The weekly Initial Jobless Claims, the Philadelphia Fed Manufacturing Survey for May and the Industrial Production data will be the most important ones. On the latter, Japan and the Eurozone have recently reported positive industrial output , and a decline in US production might trigger another round of weakness for the Greenback.
The US Dollar Index (DXY) has taken out several important support in its downward trajectory on Wednesday. Although some support comes in, several rejection levels now can emerge and trigger another violent sell-off. A crucial level to keep an eye on is 103.83, the 55-week Simple Moving Average (SMA), because if it is broken it would open room for the DXY to sink to 100.00.
On the upside, several levels need to be regained again after Wednesday’s firm correction. The first is the 55-day SMA at 104.68, together with a pivotal level at 104.60. The next step up will be 105.12 and 105.52 in case the DXY has room to recover further.
On the downside, the 100-day SMA around 104.11 is the last man standing to support the decline. Once that snaps, a bit of an air pocket is placed between 104.11 and 103.00. Should US Dollar outflows persist, the low of March at 102.35 and the low from January at 100.61 are levels to keep into consideration.
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.
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