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We will soon find out if Donald Trump has changed his stance on the dollar.
In his first term, the returning president had a clear preference for a weaker dollar. On one A notable occasion In 2019, when European Central Bank President Mario Draghi was hinting at more monetary stimulus, the then-president responded with his trademark poise, twitter Draghi's comments “immediately dropped the euro against the dollar, making it unfairly easier for them to compete against the US. They have been getting away with this for years, along with China and others.”
Trump's foray into dollar policy — traditionally the preserve of the Treasury secretary — reversed the euro's immediate decline and left the market in no doubt about what the leader of the free world wanted to see.
Fast forward to the end of 2024, and we are invited to believe that Trump 2.0 is different. In October, the man who became Treasury Secretary nominee Scott Besent suggested that Trump is actually a fan of free markets after all.
“The reserve currency can rise and fall based on the market. I think if you have good economic policies, you will naturally have a strong dollar,” Bessant said.
But Trump is a rule-breaker and a master at pointing out political shifts on social media. It is not hard to imagine him requesting or demanding measures to weaken the dollar from major US trading partners in exchange for leniency on tariffs, perhaps through a grand Mar-a-Lago agreement – an echo of the Plaza Accord that crushed the dollar in 1985. Whether that works or not That's another question entirely, especially since currency relations are a very delicate diplomatic chess game, not Trump's obvious strength.
If Trump still likes a weak dollar, the past few weeks have not gone his way. The DXY dollar index, which tracks the dollar's value against a basket of other currencies, has risen nearly 3 percent since Election Day, making gains against those currencies likely to be in the path of the trade tariff bulldozer, such as the euro and China's renminbi.
Knowing which direction currencies are headed involves more than just comparing economic growth paths and interest rates, but frankly not much. (Just don't tell the currency analysts or they will email me to complain.)
In light of this framework, the justifications for the dollar’s continued rise are clear. America is already on a higher growth trajectory than most countries in the world, even before more stimulus under the next president. If Trump imposes big tariffs on imports, that will push growth away from those other countries and probably mean interest rates there will fall in response.
Indeed, inflation in the United States has proven persistent, Timed Up to 2.7 percent year-on-year in data released this week. That leaves the Fed's quarter-point rate cut in December still in place, but undermines the case for a long series of additional cuts next year. By contrast, investors expect the ECB to continue pirating interest rates in an attempt to counter recession risks, potentially cutting deposit rates to 1.5 percent, from 3 percent now.
“US data already point to a much greater inflationary trend than just a few months ago,” Deutsche Bank analyst George Saravelos wrote this week. At the same time, he said the European Central Bank may soon start worrying about inflation falling below its 2 percent target. “The bottom line is, even without Trump, there are more repricings from the Fed/ECB, and the pressures will remain to the downside” for the euro against the dollar.
For China and the renminbi, a similar story applies. The economy is stuck in a hole and is likely to struggle further if Trump goes all-in on tariffs. This week, China's leaders called for more fiscal and monetary stimulus. Deliberate efforts to weaken the renminbi by buying dollars are a tactic used by Chinese authorities, and analysts say they would not be at all surprised to see evidence of this spread throughout the next year.
So, as has always been the case, the ball is now in Trump's court. Will he attack foreign stimulus measures as he did the last time he was in office? Will he decide that a strong dollar is the price worth paying for his tariffs? Investors don't know, but they see a good chance it could turn bad.
“This could turn into currency wars,” said Salman Ahmed, a strategist at Fidelity International. “Right now, we see (the Fed and the ECB) focusing on different realities due to political changes and financial divergence.”
One moderating factor here may be that markets have already priced in a lot of Trump. The dollar index has already risen 6 percent since late October — a time when investors became more confident of Trump's victory. This could take some of the wind out of the dollar's sails next year. If not, a period of currency diplomacy through social media awaits us again.
