Dollar Rally Stalls as Complaints Pile Up

April 18, 2024
  • U.S. Treasury Secretary Yellen acknowledged growing concerns in Japan and Korea regarding currency weakness; this comes after Powell acknowledged earlier this week that Fed policy will impact other countries; simply put, it is up to those countries to take measures to shore up their own currencies; the Fed Beige Book’s tone was a bit softer than many expected; NY Fed has come up with two scenarios for ending QT; weekly jobless claims will be closely watched
  • Even the ECB is talking about exchange rates; the root cause of dollar strength remains monetary policy divergence; BOE Governor Bailey sounded dovish
  • BOJ continues to send dovish signals; Australia reported March jobs data; China is leaning against the wind

The dollar rally is stalling out. DXY is trading flat just below 106 after making a new cycle high Tuesday near 106.517. Despite growing complaints about dollar strength (see below), it remains on track to test the November 1 high near 107.113. The euro is trading flat near $1.0670 but the clean break below $1.0755 sets up a test of the November 1 low near $1.0515. Elsewhere, sterling is trading higher near $1.2475 despite dovish comments from BOE Governor Bailey (see below). USD/JPY is trading flat near 154.45 after making a new cycle high near 154.80 Tuesday. More and more officials around the world are complaining about the strong dollar but that is not the Fed’s responsibility (see below). The dollar rally should continue as recent data confirm persistent inflation and robust growth in the U.S. In turn, Chair Powell and other Fed officials have taken a more hawkish turn. This should keep upward pressure on U.S. yields, and this is what the Fed wants in lieu of another hike (see below). We believe that while market easing expectations have adjusted violently this month, there is still room to go. When the market finally capitulates on the Fed, the dollar should gain further.


U.S. Treasury Secretary Yellen acknowledged growing concerns in Japan and Korea regarding currency weakness. There was a joint statement issued yesterday after finance officials held their first trilateral meeting on the sidelines of the IMF/World Bank meetings in Washington. They noted that “We will continue to cooperate to promote sustainable economic growth, financial stability, as well as orderly and well-functioning financial markets. We will also continue to consult closely on foreign exchange market developments in line with our existing G20 commitments, while acknowledging serious concerns of Japan and the Republic of Korea about the recent sharp depreciation of the Japanese yen and the Korean won.”

The statement comes after Powell acknowledged earlier this week that Fed policy will impact other countries. However, we continue to stress that the Fed sets policy according to its domestic mandates. Acknowledging the collateral damage of tight policy and actually changing policy because of the damage are two very different things. The Fed isn't going to cut rates just because the yen and won (and other currencies) are coming under pressure. Nor should the U.S. commit to any sort of multilateral effort to weaken the dollar when the fundamentals argue for continued strength.

Simply put, it is up to those countries to take measures to shore up their own currencies. The Bank of Japan hiked rates by 10 bp and laid out very dovish forward guidance, and so it’s no wonder the yen is weakening. If they want a strong yen, policymakers will have to do something about it. Similarly, Bank of Korea last hiked rates 25 bp to 3.5% back in January and has done nothing since to support the won. Policymakers in both countries need to do more if they want their currencies to firm.

Many EM central banks have already started to cut rates in an effort to front run the Fed. It worked when the dollar was soft and dovish Fed bets were in play but now it's come back to bite them. A hawkish Fed and strong dollar mean EM policymakers have to recalibrate their easing cycles to prevent excessive currency weakness. For instance, Bank Indonesia meets next week and while consensus sees steady rates, some analysts are looking for a 25 bp hike to help shore up the rupiah. BI has also intervened in the FX market.

Fed officials remain cautious. Mester said “I still am expecting inflation to come down, but I do think that we need to be watching and gathering more information before we take an action.” Mester is a voter this year but will retire from the Cleveland Fed this June. Elsewhere, Bowman noted that progress on inflation may have stalled, and that time will tell of policy is sufficiently restrictive. Bowman (twice), Williams, Bostic (twice), and Collins speak today. At midnight tomorrow, the media blackout begins, and we get no Fed speakers until Chair Powell’s post-decision press conference May 1.

Fed easing expectations continue to adjust. Odds of a June cut have fallen to 20% vs. 60% last week, while odds of a July cut have fallen to 50% vs. fully priced in last week. The market now sees the first cut coming in September and only 75% odds that we get a second cut in December.

The Fed Beige Book’s tone was a bit softer than many expected. However, it really doesn't matter since the Fed is widely expected to stand pat at the April 30-May 1 meeting. On Overall Economic Activity: Overall economic activity expanded slightly, on balance, since late February. Consumer spending barely increased overall, but reports were quite mixed across Districts and spending categories. The economic outlook among contacts was cautiously optimistic, on balance. On Labor Markets: Employment rose at a slight pace overall, with nine Districts reporting very slow to modest increases, and the remaining three Districts reporting no changes in employment. On balance, contacts expected that labor demand and supply would remain relatively stable, with modest further job gains and continued moderation of wage growth back to pre-pandemic levels. On Prices: Price increases were modest, on average, running at about the same pace as in the last report. On balance, contacts expected that inflation would hold steady at a slow pace moving forward. At the same time, contacts in a few Districts - mostly manufacturers - perceived upside risks to near-term inflation in both input prices and output prices.

The New York Fed has come up with two scenarios for ending Quantitative Tightening. Discussions began in earnest at the March 19-20 FOMC meeting, and the Fed is clearly fleshing out the possible paths. The current pace of QT via balance sheet runoff is $95 ln per month ($60 bln in UST and $35 bln in MBS). Under the “lower reserves” scenarios, QT would slow in H1 2025 and end mid-2025, with bank reserves falling to around $2.5 trln by mid-2026 and the balance sheet falling to $6.0 trln. Under the “higher reserves” scenario, QT would slow in H1 2024 and end early 2025 with bank reserves falling to around $3.0 trln by early 2026 and the balance sheet falling to $6.5 trln.

Weekly jobless claims will be closely watched. That’s because the initial claims reading will be for the BLS survey week containing the 12th of the month. These are expected at 215k vs. 211k last week. Continuing claims are reported with a one-week lag, and these are expected at 1.818 mln vs. 1.817 mln last week. There's no Bloomberg consensus yet for April NFP but its whisper number stands at 230k vs. 303k actual in March.

Regional Fed surveys for April continue rolling out. Philly Fed manufacturing index is expected at 2.0 vs. 3.2 in March. Next week, S&P Global reports its preliminary April PMIs.

Housing data will be closely watched. March existing home sales are expected at -4.1% m/m vs. 9.5% in February. New home sales will be reported next Tuesday and pending home sales will be reported next Thursday. The 30-year fixed rate mortgage has been moving higher since early March to near 7.5% and so it remains to be seen if the housing sector recovery can be maintained. Leading index will also be reported and expected at -0.1% m/m vs. 0.1% in February.

February TIC data suggest waning demand for dollar assets. Net foreign purchases of long-term U.S. securities fell to $912 bln in the twelve months through February vs. $991 bln through January. This is the lowest since April 2022 but still more than offsetting the cumulative trade deficit of -$776 bln for the same period. Of note, Japan increased its UST holdings to $1.168 trln, the highest since August 2022, while China decreased its UST holdings to $775 bln, the lowest since April 2009.


Even the ECB is talking about exchange rates. President Lagarde said the bank is watching exchange rates “very carefully,” adding that “While we have a single mandate with a primary objective of price stability, obviously we have to take into account the impact that exchange-rate variations will have on our inflation. That movement of currencies may have an impact on inflation by way of imported inflation.” Bottom line: the ECB is not deeply concerned about recent euro weakness but is certainly keeping an eye on the second-round effects.

Yet the root cause of dollar strength remains monetary policy divergence. This was acknowledged by Vasle, who noted “The economic situation in the U.S. is at the moment different from the euro area. So, it’s a logical consequence that the reaction of monetary policy might also be different.” However, Vasle warned that “this divergence has limits.” That may be, but right now, the ECB is seen cutting earlier and cutting more than the Fed in this cycle and is leading to widening interest rate differentials that remain a headwind for the euro. Guindos, Nagel, Centeno, Simkus, and Vujcic speak today.

Bank of England Governor Bailey sounded dovish. Bailey brushed off the latest U.K. CPI print, which showed inflation stickier than expected in March. According to Bailey “next month's inflation number will show quite a strong drop” owing to the reduction in the energy price cap from April. Nonetheless, we believe high services inflation and strong nominal wage growth will keep the BOE cautious. As such, there is scope for UK interest rate expectations to adjust higher in favor of GBP. The market keeps going back and forth between August and September for the first cut. Tomorrow’s March retail sales report is the next data highlight.


Bank of Japan continues to send dovish signals. Board member Noguchi argued his case for gradual rate hikes and vowed to keep policy settings easy. However, his dovish comments are not that surprising as he was one of two BOJ board members who voted against the March rate hike. We expect a dovish tone to be maintained at next week’s policy meeting and so Bank of Japan tightening expectations should remain mild. The market continues to price in only around 50 bp of tightening over the next three years. Until these expectations shift, monetary policy divergences with the Fed will likely keep upward pressure on USD/JPY.

Australia reported March jobs data. A total of -6.6k jobs were lost vs. an expected 10.0k gain and a revised 117.6k (was 116.5k) in February, while the unemployment rose a tick to 3.8%. This remains below the lower end of the RBA’s estimated full employment range of 4.0-5.75%. The decline in jobs was driven by a -34.5k drop part-time employment, with full-time employment up 27.9k. The forward-looking Westpac-Melbourne Institute Unemployment Expectations Index shows that more consumers expect unemployment to fall over the year ahead. The market is pricing in 90% odds of a 25 bp rate cut in 2024 vs. almost 50 bp of total easing that was seen earlier this month.

China is leaning against the wind. PBOC Deputy Governor and head of SAFE Zhu Hexin said, “the central bank’s goal and determination to maintain the basic stability of the yuan’s exchange rate will not change.” However, monetary policy divergences continue to favor the dollar as interest rate differentials continue to move in favor of the U.S. Until this changes, policymakers in China can only hope to slow the move, not reverse it.

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