Hard to Bet Against the Dollar With This Strong Economy

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Betting against the Dollar could remain a futile endeavour given the relentless outperformance of the U.S. economy, confirmed by the latest quarterly GDP print.

U.S. GDP rose 4.9% quarter-on-quarter in the third quarter, said the BEA, handsomely beating estimates for an acceleration from Q2's 2.1% to 4.3%.

"Exceeding expectations and proving its mettle once again, today’s 23Q3 US GDP report underscored the American economy’s remarkable resilience in the face of restrictive monetary policy," says Ali Jaffery, an economist at CIBC Capital Markets.

Jaffery describes the 4.9% growth as "eye-popping", with the data revealing the main driver of growth was the resurgence in US consumption, which increased 4.0% in the quarter compared to 0.8% in the second quarter.

This rise in consumption comes despite the recent rise in interest rates and bond yields, allowing markets to bet the economy can sustain these levels of rates for a longer-than-previously-expected period.

This 'higher for longer' expectation has been a key driver of the Dollar's recent resurgence and hints that it can be maintained, particularly given the slowdown underway in Europe.

Elsewhere in the report, goods and services consumption increased in the second quarter, with Jaffery suggesting this is likely due to the strength in the labour market.

"Non-residential investment was flat in the quarter after surging last quarter and residential investment grew by 3.9%, the first positive increase since 21Q1," he observes.

Inventory accumulation added a massive 1.3 percentage points, "flattering the headline growth number," adds Jaffery.

CIBC Capital Markets says the resilience of the U.S. economy won’t fade on its own and further tightening of monetary policy will be needed to cool demand.

Although the U.S. outperformance story is well understood by currency markets and heavily discounted into the value of the Dollar (potentially explaining why the USD did not make a fresh quest for the stars), it will remain challenging to fight the Greenback's trend of appreciation until the economic situation takes a turn.

Following the figures, the Pound-Dollar exchange rate was at 1.2117 and the Euro-Dollar conversion at 1.0550.

Another consideration behind the Dollar's relatively lacklustre reaction to the data is expectations for significant payback in the final quarter, with some economists even anticipating negative growth.

"Strong growth in one quarter says little about what is likely to occur in the next quarter, and that applies especially to GDP which is highly volatile at the best of times (and even moreso in the post-pandemic world). As such, we expect significant payback in Q4 following the exceptional strength in Q3, with a high likelihood of an outright decline in GDP," says Bill Diviney, an economist at ABN AMRO.

Diviney says the strength in consumption looks unsustainable in light of headwinds from falling wage growth, the oft-cited student loan repayment restart, and tighter credit conditions

Furthermore, the significant positive contribution from inventories is likely to go into reverse and subtract from GDP in Q4, according to ABN AMRO's analysis.