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Economy to Strengthen the Dollar

us dollar
“We can expect a blistering dollar rally,” Ambrose Evans-Pritchard predicts in the Daily Telegraph.

He bases his forecast on the rapid improvement in the condition of the US economy that is likely to shift the central bank towards earlier, tougher tightening of its easy-money policies.

Improving US Economy to Strengthen the Dollar

Although Fed chairman Janet Yellen is generally regarded as a dove, she could easily switch to hawkishness. “She was one of the first to call for pre-emptive rate rises in 1996 to choke inflation, dissenting from the Greenspan Fed. Nobody thought of her as dovish then.”

Her lodestar is America’s NAIRU – non-accelerating inflation rate of unemployment. She thinks the point at which tight labour markets start to drive a wage-price spiral is about 5.4 per cent.

The unemployment rate has plunged in 12 months from 7.5 to 6.1 per cent. Yellen told Congress that the pace of jobs recovery is coming 15 months earlier than the Fed expected. With skill shortages cropping up everywhere, the point is fast approaching when she will become a hawk, Evans-Pritchard says, as several members of the Fed’s monetary policy committee already are.

One consequence of a credit tightening will be a strengthening of the greenback in terms of other currencies. Jens Nordvig, chief currency strategist at the Nomura investment bank, says: “We are close to a major cyclical recovery for the dollar.”

“Under normal circumstances the Fed would be targeting short-term rates of about 3 per cent right now rather than the essentially 0 per cent rate that has been in place for several years,” says Russ Swansen, chief investment officer at Thrivent Financial.

The outlook is for economic growth of 2 to 3 per cent a year, given generally positive trends in the labour market and the manufacturing sector, plus favourable financial conditions.

There is no hint of an impending recession in current economic statistics.

However, the St Louis Fed’s Financial Stress Index is now at its lowest level in at least 20 years, suggesting that “the markets could be vulnerable to a correction.

Stock-market declines in the neighborhood of 20 per cent or more can happen even without a recession. After former Fed chairman Alan Greenspan warned about “irrational exuberance,” the stock-market actually continued climbing for the next three years, but it did suffer a 19 per cent correction during the period.

For practical purposes, such corrections cannot be predicted. “Investors must be prepared to live through them.”

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