The US dollar has been weakening for some time – over the past five years its value has fallen 18% against the British pound, 26% against the euro and 20% against the yen.
With the US teetering on the edge of a possible recession, what is the future for the greenback? IG Index research analyst Anthony Grech considers the coming months for the dollar, analysing past trends and historical data
Below is a summary of the latest report from IG Index. You can access the full version in the TradeSense Databank found in the PureDeal platform.
Dollar in decline
Interest rates in the US experienced a sharp decline in the early 2000s, off the back of a range of factors such as the September 11 terrorist attacks and the bursting of the dot-com bubble. While other countries' rates dropped in line they were much less pronounced, meaning currencies such as the British pound were seen as more attractive than the dollar.
As the pound and other currencies appreciated against the dollar, the US dollar index (USDX) dropped to below the critical 80-point barrier – a level which had supported the dollar's downturns in previous years. Breaking through this psychological barrier suggests that the US dollar may yet be susceptible to further weakening.
Recession is the buzzword of the moment as all eyes watch the American economy and the US dollar for signs of either recession or stagflation – a situation not seen since the early 1970s.
Although an analysis of past recessions reveals that the US dollar traditionally gains support during these times, it also acknowledges that this support typically begins before the recession, in anticipation of future events.
Where next for the greenback?
These conflicting views – that the US dollar is generally supported in a recession but that the USDX has broken through the traditional 80-point support barrier – suggests that the market is not yet decided on whether America will be heading to a recession or just a period of stagflation.
However, recent figures showing a surprise fall in US employment have increased negative sentiment towards the US dollar, weakening it still further, while the US Fed's decision on whether to cut interest rates again in March and its plans to increase liquidity in the global banking markets are vital.
The US dollar is currently continuing to slump, hitting a 12-year low after slipping under 100 yen and suffering more losses against the euro and the pound. However, it is significant that despite the USDX breaking the 80-point barrier it has not fallen too far below this level, which could be reflecting an indecisive market that may send the dollar up to support an upcoming recession.
Take a view on a US dollar
Will the US dollar continue its decline or has it been oversold? IG Index allows you to follow your views on the market regardless of whether you think the dollar will recover or fall, offering spreads on the dollar versus various world currencies.
Our US Dollar Basket, which weights the dollar against a range of other currencies, allowing you to track the changes in the dollar while not committing to the risk involved with one particular currency. The bet settles at the closing price of the Dollar Index contract on NYBOT.
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The above comments do not constitute investment advice and IG Index accepts no responsibility for any use that may be made of them.
Updated: 14 March 2008