A dealer works as displays show the exchange rate between the Japanese yen and the US dollar at a foreign exchange trading company in Tokyo on October 21. The yen continues its fall against the US dollar, hitting a 32-year low, to remain in the 150 range. Photo: EPA-EFE
by Neal Kimberley
by Neal Kimberley

It’s not personal – US dollar strength is an offer Washington can’t refuse

  • Washington is unmoved by the unease around the world at the US dollar’s appreciation because the currency’s strength is in the country’s interest for now
  • Until the markets see an end to interest rate increases or shifts in US policy, they will expect the dollar to get more expensive and act accordingly

“It’s not personal, Sonny. It’s strictly business,” Michael Corleone said in Francis Ford Coppola’s 1972 cinematic masterpiece The Godfather. The same sentiment applies in 2022 to the US dollar as its continued appreciation on the foreign exchanges causes unease in capitals around the world while Washington is unmoved.

It’s nothing personal, it just suits US interests for the US dollar to stay strong for now. While that might not play well in many places outside the United States, it is what it is.
China’s onshore yuan closed last week in Asia at 7.2494 per US dollar. That was its weakest close since January 14, 2008, amid rising market expectations of further increases in US interest rates.
It could be, as some banking sources suggested, that major Chinese state-owned banks sold US dollar for yuan on the onshore foreign exchange market on Friday to stem the pace of the renminbi’s decline against the US dollar. After all, Beijing sets great store by the concept of yuan stability.

But if the driver of Friday’s price action was primarily US dollar strength rather than yuan weakness – as seems to have been the case – then arresting the move, let alone reversing it, is not going to be easily achieved.

Over in Japan, that same demand for US dollars saw the Japanese yen sink below 151 to the US currency, a fresh 32-year low. That prompted Japanese Finance Minister Shunichi Suzuki to warn that Tokyo would not “tolerate excessive moves by speculators”.
Unilateral intervention by Japan, selling US dollars for yen in afternoon trading in Europe on Friday, helped secure a face-saving weekly close below 150. However, Tokyo’s continuing problem in this regard is that when the Bank of Japan’s ultra-accommodative stance is set against the US Federal Reserve’s ever-tighter monetary policy, the yield advantage clearly favours the US dollar over the yen.

At the same time, in the absence of coordinated intervention by both Tokyo and Washington to turn the tide of yen weakness, the currency markets are likely to conclude that such unilateral action by the Bank of Japan on behalf of the Ministry of Finance just provides better levels to buy US dollars.

Coordinated intervention doesn’t seem a realistic proposition, especially given that US Treasury Secretary Janet Yellen said a “market-determined value of the [US] dollar is in America’s interest”. While markets know that US interest rates are still rising given that US inflation remains stubbornly elevated despite the Fed already having significantly tightened monetary policy this year, neither is there any consensus about at what level the US central bank will conclude the rate-raising cycle should end.

Dollar peg and economic heft protect Hong Kong and China from US-driven volatility

Last Thursday, in comments that surely fuelled US dollar strength the next day, Philadelphia Federal Reserve president Patrick Harker reiterated that because of current US inflation, “the Fed is actively trying to slow the economy” and is “going to keep raising rates for a while”.

While the US central bank has a federal funds rate target of 3 to 3.25 per cent, Harker said that “given our frankly disappointing lack of progress on curtailing inflation”, the Federal Reserve will “be well above 4 per cent by the end of the year”.

The more the Fed front-loads US rate increases while other jurisdictions move more slowly, the easier it is for US dollar bulls to make the case for further appreciation. No one should forget that as recently as October 15, US President Joe Biden was quoted as saying he was “not concerned about the strength of the dollar”.
A teller counts US dollars at a money changing booth at Raffles Place in Singapore on October 6. Photo: AFP
At a time of elevated US inflation in which the Biden administration has been pushing through fiscal stimulus measures, US dollar strength comes into its own, bearing down on imported inflation while simultaneously – through higher nominal yields – encouraging capital to flow into the United States to help finance the White House’s spending programmes. In short, the current US dollar strength suits Washington.

Until the markets perceive that there is an end in sight to Fed rate increases or that the Biden administration is less comfortable with US dollar strength, the line of least resistance for the foreign exchanges is to expect the dollar to be more expensive tomorrow than it is today and act accordingly.

Even those who exit long US dollar positions are finding themselves having to re-enter the same trades or, to paraphrase Michael Corleone from The Godfather Part III, just when they thought they were out, they get pulled back in. That’s just how it is.

Neal Kimberley is a commentator on macroeconomics and financial markets