Policies proposed by President Donald Trump are likely to boost the dollar during his second term, but a stronger greenback has the potential to cause chaos in global markets, according to one think tank researcher.
Michael Klein, a senior fellow at Chatham House, wrote this week that the dollar is likely to appreciate under Trump, even though Trump himself would like to see a weaker dollar to narrow the U.S. trade deficit.
Klein said that scenario is unlikely to happen, mainly because other major currencies remain challenged and Trump's policies are positive for the dollar.
“President-elect Trump has a dollar problem. In recent months, he has made clear his preference for a weaker exchange rate to support the competitiveness of U.S. exports and help reduce the U.S. trade deficit. However, as markets have perceived since the U.S. election, the more likely outcome is that his policies will ultimately strengthen the dollar. The risk is that an already expensive dollar could become even more clearly overvalued, which could increase uncertainty about global financial stability,” Klein wrote.
Klein noted that a stronger dollar could be bad news for the global economy. Given the dollar's widespread use in global financial markets, global trade could be dampened if the dollar's value rises.
At the same time, countries that find their currencies losing value relative to the dollar may have a harder time controlling inflation.
“If or when the dollar becomes unsustainably expensive, another problem will arise: what to do with an overvalued currency without causing a lot of financial turmoil,” Klein said. “With little room for negotiating a lower dollar, a more chaotic alternative seems more likely.”
Markets have woken up to the possibility of a stronger dollar during Trump's presidency. The dollar index, which measures the greenback against a basket of six major currencies, has risen about 3% over the past month and briefly topped 107 on Thursday, its highest level in a year.
Several of Trump's policies support a stronger dollar. Klein pointed to Trump's plans to impose high tariffs, including a general tariff of 10% on most U.S. imports and a 60% tariff on Chinese imports.
Klein added that a U.S. tax on another country would also tend to weaken that country's currency as traders sell it in the foreign exchange market.
"Broader tariffs on multiple U.S. trading partners should further strengthen the dollar," Klein added.
Economists also said Trump's tariff plans could lead to higher inflation and interest rates, which would support the dollar. Klein mentioned that Trump's other policies, such as tax cuts, could also add to price pressures.
"Because stimulating U.S. economic growth will create inflationary pressure, the market expects interest rates to be higher than otherwise. This combination of loose fiscal and tight monetary policy typically leads to a stronger currency," Klein said.
Trump has pushed back against the idea that his policies could push up prices and insisted he will lower inflation during his term. There was no significant increase in inflation during his first term, but economists say the tariff plan is broader this time and is more likely to lead to higher prices.
Article forwarded from: Jinshi Data
