The US Dollar Index (DXY), an indicator of the value of the US Dollar (USD) measured against a basket of six global currencies, traded favorably around 99.15 during the early European session on Thursday. The US weekly initial jobless claims report will be published later on Thursday. Fed policymakers, including Raphael Bostic, Michael Barr, Thomas Barkin and Jeff Schmid, are also scheduled to speak.
Data released by the US Census Bureau on Wednesday showed that US retail sales rose 0.6% month over month in November, after contracting 0.1% in October. This figure was higher than market expectations of an increase of 0.4%.
Meanwhile, the US Producer Price Index (PPI) rose 3.0% year over year in November versus 2.8% previously, according to the Bureau of Labor Statistics (BLS). This reading was higher than the estimate of 2.7%. Excluding food and energy, core producer prices also rose 3.0% on the year in November, compared to 2.9% in October, beating expectations of 2.7%.
The DXY index received some support from rising expectations that the Federal Reserve will keep interest rates unchanged over the next few months. According to the CME FedWatch tool, financial markets expect a roughly 5.0% probability that the US central bank will cut interest rates at its next meeting in January.
The upside for the US dollar may be limited amid concerns about the independence of the Federal Reserve. Federal Reserve Chairman Jerome Powell criticized US President Donald Trump’s administration’s decision to summon him, saying it amounted to intimidating the US central bank into introducing easier monetary policy.
Trump said Wednesday that he has no plans to fire Powell despite the Justice Department’s criminal investigation into the Fed chief, but that it is “too early” to say what he will ultimately do.
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.
