Last week, the Federal Reserve scaled back on its plans to hike interest rates this year. The potential for a delay has taken steam out of the dollar’s rally and contributed to a bounce in commodity markets.
Higher US interest rates usually help boost demand for the US Dollar, which helps the dollar to appreciate against other currencies. The dollar gained significantly last summer. This strong dollar makes it harder for US companies to sell goods overseas and to compete against imports, as Fed Chairwoman Janet Yellen pointed out in the last meeting. For this reason, the Fed might not want to raise rates until the dollar cools down.
What the Drop Means Internationally
However, it is important to keep in mind that foreign exchange rates reflect conditions in more than one economy. Some would argue that the dollar has risen because of expectations of higher interest rates. However, the dollar has strengthened mainly because the euro and the Japanese yen have depreciated in response to monetary stimulus implemented by their respective central banks. The falling price of oil is also driving down the currencies of many commodity exporters.
The danger of the Fed tightening the money supply too much or too soon is that it might drive many weak international borrowers — including firms and governments in emerging-market countries. For many foreign borrowers, this makes repayment more expensive. In the US, tighter money risks damaging credit-sensitive sectors such as residential construction and automotive.
US dollar index since 2014.
Technically, the recent drop of the dollar is no real cause for panic. It is normal to see currency consolidating and it wouldn’t be rare to see a significant pullback after such a big move. The dollar’s run lower is reflecting investor hesitation over US interest rates and the sensation that the greenback has run too far at a very fast pace.
What This Means For Metal Buyers
As we have been reporting, the dollar has a big impact on metal markets and metal buyers should keep an eye on it. We’ll have to wait and see how this unfolds, but the recent drop doesn’t give us any reason to turn bearish on it, at least not yet. For the reasons explained above, and expectations of more rapid economic growth in the US compared to other economies making the dollar grow stronger, we choose to remain bullish on the dollar, and, therefore, bearish on commodities.