The US Dollar Index (DXY), an index of the value of the US Dollar (USD) measured against a basket of six global currencies, is trading flat near 99.20 during Asian trading hours on Wednesday. Traders prefer to wait on the sidelines before a major US Federal Reserve policy decision later on Wednesday.
The JOLTS report released by the US Department of Labor on Tuesday showed that job openings rose to 7.67 million in October, beating expectations of 7.20 million. This report pointed to a strong labor market, which could influence expectations of interest rate cuts and lift the dollar index. Traders are currently anticipating a roughly 87.4% probability of a 25 basis point rate cut at the December meeting, down 2% following the recent stronger jobs report.
Traders will also be closely monitoring Federal Reserve Chairman Jerome Powell’s press conference after the policy meeting. Analysts believe Powell is likely to propose an upper limit on future interest rate cuts, perhaps signaling a pause after the move. “The most likely outcome is some kind of hawkish tapering where they cut, but the statement and press conference suggest they may be done tapering for now,” said Bill English, a former director of monetary affairs at the Federal Reserve who is now a professor at Yale University.
On the other hand, the possibility of White House Economic Advisor Kevin Hassett taking over as Fed Chairman may limit the upside of the US dollar. US President Donald Trump said that he intends to announce his choice to succeed Jerome Powell as Chairman of the Federal Reserve early next year. Kevin Hassett has emerged as the front-runner to be the next Chairman of the Federal Reserve, which could drag the US dollar lower, as analysts believe Hassett is expected to push for further interest rate cuts.
Frequently asked questions about the US dollar
The US dollar (USD) is the official currency of the United States of America, and the “de facto” currency of a large number of other countries where it is traded alongside local banknotes. It is the world’s most traded currency, accounting for more than 88% of total global forex trading volume, or an average of $6.6 trillion in transactions per day, according to 2022 data. After World War II, the US dollar took the place of 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 disappeared.
The most important factor affecting the value of the US dollar is monetary policy, which is shaped by the Federal Reserve. The Fed has two missions: achieving price stability (controlling inflation) and promoting full employment. The basic tool for achieving these two goals is adjusting interest rates. When prices rise too quickly and inflation is above the Fed’s 2% target, the Fed will raise interest rates, which helps the value of the US dollar. When the inflation rate falls below 2% or when the unemployment rate is very high, the Fed may cut interest rates, which affects the dollar.
In extreme cases, the Fed could also print more dollars and activate quantitative easing (QE). Quantitative easing is the process by which the Federal Reserve dramatically increases the flow of credit into a stuck financial system. It is a non-standard policy measure used when credit dries up because banks will not lend to each other (due to fear of the counterparty defaulting). It is a last resort when simply lowering interest rates is unlikely to achieve the necessary result. It has been the Fed’s weapon of choice to combat the credit crunch that occurred during the Great Financial Crisis of 2008. This involves the Fed printing more dollars and using them to buy U.S. government bonds mostly from financial institutions. Quantitative easing usually leads to a weakening of the US dollar.
Quantitative tightening (QT) is the reverse process whereby the Fed stops purchasing bonds from financial institutions and does not reinvest capital from bonds it holds outstanding in new purchases. It is usually positive for the US dollar.
