The US Dollar Index (DXY), an index of the value of the US Dollar (USD) measured against a basket of six world currencies, trades on a stronger note around 99.75 during the Asian trading hours on Monday. The DXY edges higher on the hawkish stance from the US Federal Reserve (Fed). Traders brace for the release of the US October ISM Manufacturing Purchasing Managers’ Index (PMI) report later on Monday.
The US central bank decided to cut the interest rates by 25 basis points (bps) at its October meeting last week, as expected. However, Fed Chair Jerome Powell hinted that it may be the central bank’s last reduction for the year, citing the risk of making additional moves without a more robust picture of the economy.
Meanwhile, Dallas Fed President Lorie Logan and Cleveland Fed President Beth Hammack stated on Friday that they would have kept interest rates on hold instead of cutting the federal funds target range by a quarter point to 3.75-4.0%. Kansas City Fed President Jeff Schmid noted that he favored no rate cut at the last meeting, as he’s more concerned that inflation is “too high” than he is about the labor market. Hawkish remarks from Fed officials boost the US Dollar across the board.
Traders have pared back expectations for a Fed cut in December and are now pricing in roughly 68% odds of a move, down from a 93% chance a week ago, according to the CME FedWatch tool.
Republicans and Democrats remained at a stalemate on the government shutdown over the weekend as it headed into its sixth week, and it appears likely to become the longest in US history. Concerns over the ongoing US federal shutdown could drag the DXY lower.
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.
