Economists at Charles Schwab believe the dollar is in for a long decline for the following reasons: the Federal Reserve has shifted to a zero interest rate policy, U.S. economic growth will likely underperform other major economies due to the coronary virus, political uncertainty is rising, and the growing U.S. budget deficit will need to be financed with foreign capital.

Key Quotes

“The Federal Reserve’s policy-making arm, the Federal Open Market Committee, has said it will keep interest rates near zero for the foreseeable future, a sentiment reinforced by Fed Chairman Jerome Powell, who said the members ‘aren’t even thinking about raising rates.’ That, coupled with concerns that the U.S. will lag behind other major economies out of the COVID-19 crisis, has led to a decline in 10-year Treasury yields and a convergence of interest rates with other major developed countries, making the dollar less attractive to foreign investors looking for yield.”

“In reality, it is the spread of international real interest rates (inflation-adjusted yields) that is a significant factor in currency volatility. And while nominal interest rates, such as the 10-year Treasury yield, have fallen to historic lows, real interest rates have fallen further into negative territory. One reason for this is increased inflation expectations, which have been fueled by the Fed’s intention to allow consumer prices to exceed its long-term target of 2%, massive monetary stimulus, and the risk of a feedback loop of a weaker dollar (which could lead to higher import prices).”

“Fiscal stimulus spending has led to a growing U.S. budget deficit that will require foreign financing to fill. With interest rates held down by the Federal Reserve and weak growth expectations, a lower dollar may be needed to attract international investors to buy.”

“While the dollar is likely to remain the primary reserve currency, increased political uncertainty in the U.S. could make other countries look relatively stable unless a crisis reoccurs.”

“We expect the dollar to fall over the medium term – but we believe that investor sentiment towards the dollar has become too muted, which increases the likelihood of a short-term rally.”

Source Link

2020-08-14