US Dollar Index recovers above 97.50 ahead of US ISM Manufacturing PMI release
- US Dollar Index strengthens to around 97.80 in Tuesday’s early Asian session.
- Persistent geopolitical tensions boost the safe-haven flows, supporting the US Dollar.
- Rising Fed rate cut bets might cap the DXY’s upside.
The US Dollar Index (DXY), an index of the value of the US Dollar (USD) measured against a basket of six world currencies, recovers some lost ground to near 97.80 during the early Asian trading hours on Tuesday. The US ISM Manufacturing Purchasing Managers Index (PMI) for August will be in the spotlight later on Tuesday.
The DXY rebounds from the lowest level since 28 July amid ongoing geopolitical tensions between Russia and Ukraine. The Guardian reported that Russian drone attacks on power facilities in northern and southern Ukraine on Sunday left nearly 60,000 customers without electricity. Ukrainian President Volodymyr Zelenskyy vowed to retaliate by ordering more strikes deep inside Russia.
Nonetheless, the growing speculation that the US Federal Reserve (Fed) will resume lowering its benchmark interest rate this month might cap the upside for the US Dollar. According to the CME FedWatch tool, markets are now pricing in nearly an 89% possibility of a 25 basis points (bps) rate cut by the Fed at the September policy meeting, up from 85% odds before the US PCE data.
Traders await the release of the US August employment report for fresh impetus. This report could offer insight into the economy's health and offer hints as to whether interest rate cuts are coming soon. The US economy is forecast to see 75K job additions in August, while the Unemployment Rate is projected to tick higher to 4.3% during the same report period.
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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