The US Dollar Index (DXY), an index of the value of the US Dollar (USD) measured against a basket of six global currencies, is trading flat near 99.25 during the early Asian session on Tuesday. The DXY remained flat as US President Donald Trump eased his rhetoric against tariffs on China. Federal Reserve Chairman Jerome Powell’s speech will be in the spotlight later on Tuesday.
On Friday, Trump threatened China with 100% tariffs starting November 1. But he softened his tone on Sunday, saying: “Don’t worry about China, everything will be fine.” US Treasury Secretary Scott Besent said Monday that Trump is still on track to meet Chinese leader Xi Jinping in South Korea in late October.
A potential meeting with his Chinese counterpart raised hopes of calming trade tensions between the world’s two largest economies. This, in turn, could provide some support to the dollar.
On the other hand, dovish statements from Federal Reserve officials may limit the US dollar’s upside. Philadelphia Fed’s Anna Paulson said Monday she expects further interest rate cuts to support the labor market, as trade tariffs now appear unlikely to lift inflation as much as expected.
Markets are currently pricing in a certain 25 basis point rate cut at the Fed’s October meeting, with another cut expected in December, according to the CME FedWatch tool.
The US government shutdown has entered its third week with no solution in sight. The Senate returns on Tuesday and is expected to vote again on the House-passed measure to fund the government. A prolonged US Federal Reserve shutdown may raise concerns about the impact on the US economy, which could exert some selling pressure on the DXY Dollar Index.
Frequently asked questions about the US dollar
The US dollar (USD) is the official currency of the United States of America, and the “de facto” currency of a large number of other countries where it is traded alongside local banknotes. It is the most traded currency in the world, accounting for more than 88% of total global forex trading volume, or an average of $6.6 trillion in transactions per day, according to 2022 data.
After World War II, the US dollar took the place of 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 disappeared.
The most important factor affecting the value of the US dollar is monetary policy, which is shaped by the Federal Reserve. The Fed has two missions: achieving price stability (controlling inflation) and promoting full employment. The basic tool for achieving these two goals is adjusting interest rates.
When prices rise too quickly and inflation is above the Fed’s 2% target, the Fed will raise interest rates, which helps the value of the US dollar. When the inflation rate falls below 2% or when the unemployment rate is very high, the Fed may cut interest rates, which affects the dollar.
In extreme cases, the Fed could also print more dollars and activate quantitative easing (QE). Quantitative easing is the process by which the Federal Reserve dramatically increases the flow of credit into a stuck financial system.
It is a non-standard policy measure used when credit dries up because banks will not lend to each other (out of fear that the counterparty will default). It is a last resort when simply lowering interest rates is unlikely to achieve the necessary result. It has been the Fed’s weapon of choice to combat the credit crunch that occurred during the Great Financial Crisis of 2008. This involves the Fed printing more dollars and using them to buy U.S. government bonds mostly from financial institutions. Quantitative easing usually weakens the US dollar.
Quantitative tightening (QT) is the reverse process whereby the Fed stops purchasing bonds from financial institutions and does not reinvest capital from bonds it holds outstanding in new purchases. It is usually positive for the US dollar.
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