US Dollar Index holds correction near 100.00 in countdown to Fed policy
- The US Dollar Index clings to Monday’s correction near 100.00 with the Fed’s policy in the spotlight.
- Iran allows many nations to ship their energy tankers from the Strait of Hormuz.
- The Fed is expected to hold interest rates steady on Wednesday.
The US Dollar (USD) holds its Monday’s corrective move, which was driven by a significant retracement in the oil price that eased de-anchored consumer inflation concerns.
As of writing, the US Dollar Index (DXY), which tracks the Greenback’s value against six major currencies, trades marginally higher near 99.90.
The USD Index corrected sharply from its over nine-month high of 100.54 posted on Friday as the oil price tumbled after Iran allowed many countries to ship their oil and Liquefied Petroleum Gas (LPG) tankers from the Strait of Hormuz, potentially easing energy supply concerns.
The Greenback has registered a strong rally in the past few weeks as Iran conflicts with the United States (US) and Israel increased its safe-haven appeal. Also, higher oil prices weakened speculation of near-term interest rate cuts by the Federal Reserve (Fed).
According to the CME FedWatch tool, traders are confident that the Fed will not cut interest rates before the September policy meeting. Also, the odds of an interest rate cut in the September meeting are almost 50%.
For more cues on the monetary policy outlook, investors will focus on the Fed’s policy meeting on Wednesday. In the meeting, investors will also focus on the FOMC Economic Projections report, which will show forecasts regarding interest rates, inflation, and economic growth.
US Dollar FAQs
The US Dollar (USD) is the official currency of the United States of America, and the ‘de facto’ currency of a significant number of other countries where it is found in circulation alongside local notes. It is the most heavily traded currency in the world, accounting for over 88% of all global foreign exchange turnover, or an average of $6.6 trillion in transactions per day, according to data from 2022. Following the second world war, the USD took over from 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 went away.
The most important single factor impacting on the value of the US Dollar is monetary policy, which is shaped by the Federal Reserve (Fed). The Fed has two mandates: to achieve price stability (control inflation) and foster full employment. Its primary tool to achieve these two goals is by adjusting interest rates. When prices are rising too quickly and inflation is above the Fed’s 2% target, the Fed will raise rates, which helps the USD value. When inflation falls below 2% or the Unemployment Rate is too high, the Fed may lower interest rates, which weighs on the Greenback.
In extreme situations, the Federal Reserve can also print more Dollars and enact quantitative easing (QE). QE is the process by which the Fed substantially increases the flow of credit in a stuck financial system. It is a non-standard policy measure used when credit has dried up because banks will not lend to each other (out of the fear of counterparty default). It is a last resort when simply lowering interest rates is unlikely to achieve the necessary result. It was the Fed’s weapon of choice to combat the credit crunch that occurred during the Great Financial Crisis in 2008. It involves the Fed printing more Dollars and using them to buy US government bonds predominantly from financial institutions. QE usually leads to a weaker US Dollar.
Quantitative tightening (QT) is the reverse process whereby the Federal Reserve stops buying bonds from financial institutions and does not reinvest the principal from the bonds it holds maturing in new purchases. It is usually positive for the US Dollar.
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