FX Talking September: Strong dollar overstays its welcome

Despite much anticipation of de-dollarisation trends and a new world order, the dollar exits the summer season in rude health. The clear driver remains a surprisingly strong US economy set against deteriorating business trends in Europe and especially China. This dollar strength is starting to look unwelcome in that inflation fears have not entirely receded in the rest of the world and local currency weakness is unhelpful.

The million-dollar question, then, is whether this US ‘exceptionalism’ can last? Our economists think not. We think US consumers will have worked through their pandemic savings over coming months and that tighter credit conditions will take their toll on US businesses and employment trends. We look for a much sharper 2024 Fed easing cycle than the market currently prices and expect the dollar to turn south through 4Q23.

The subdued outlook for the European manufacturing sector means that EUR/USD gains will be hard won. Our year-end forecast of 1.13 may again be too aggressive. Yet the long-awaited bullish steeping of the US yield curve should reflate commodity currencies over coming months and even high beta currencies like the Swedish krona.

Emerging currencies are showing some glaring divergences. In Asia, Chinese authorities will continue to do battle with renminbi weakness until the dollar trend turns. A surprisingly large rate cut in Poland has raised some doubts about premature easing and has hit the zloty. While in Latam, some aggressive easing cycles are underway. However, fears over Banxico wanting a weaker Mexican peso look overblown.