U.S. Dollar to Fall in Medium-to-Long-Term say Experts
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- BNP Paribas bearish on Dollar over U.S. debt mountain
- Waning stimulus and politics factors also seen weighing
- Fed to remain on hold possibly even if trade truce
The U.S. Dollar is outperforming this February with the Dollar index - a broad measure of overall Dollar performance - reaching highs not seen since December.
In line with this strength, the Pound-to-Dollar exchange rate is seen pushing lower having fallen 0.5% month-on-month to 1.2803 while the Euro-to-Dollar exchange rate has fallen 0.65% month-on-month to quote at 1.1284.
The gains for the Dollar are however to be considered a shorter-term phenomenon say a number of analysts who have been giving their view on the currency's outlook on a longer-term basis.
Factors that will ultimately lead to the currency's depreciation include America's rising debt burden, the impact of President Donald Trump's fiscal stimulus wearing off, and political deadlock in Washington.
“Everyone is way bullish the Dollar, but we are not,” says Edmund Shing, Global Head of Equity & Derivative Strategy, at BNP Paribas, “we are pretty bearish the Dollar because we think eventually the debt mountain comes to bear.”
The U.S. Treasury will find it increasingly difficult to find buyers for its bonds and will be forced to go ‘cap-in-hand’ to foreign investors for the money, which will weigh on the U.S. currency.
“Someone has got to buy this U.S. debt - remember they are running massive budget deficits,” says Shing in an interview with Bloomberg News. “I love the way everyone complains about Italy and the Italian budget deficit - the U.S. have got a massive budget deficit. It is only going to get worse, Trump isn't doing anything to help and they think everyone is going to buy their debt.”
Many think U.S. domestic buyers will purchase the debt but Shing is not convinced.
“The Treasury are sellers, who’s the buyer? Not the Russians, not the Chinese. The domestic U.S. investor? Lets see. Let’s see if they will absorb all of the debt,” adds Shing.
Shing is not the only expert with a bearish view of the Dollar.
“Over the medium-term we also see the Dollar depreciating from here,” says Marilyn Watson, head of global fundamental fixed income strategy at Blackrock.
Watson expects the Federal Reserve (Fed) to remain on pause for an extended period and for this to be the main factor weighing on USD.
The Fed sets U.S. interest rates which are a prime driver of the Dollar. Higher rates push up the value of the Dollar and vice versa for lower rates. This is because rates attract or repel foreign capital inflows depending on whether they are expected to go up or down. The higher they are the more inflows they attract and the greater the demand for the domestic currency.
“We did see a bit of a pause after the Fed,” says Watson, “Then J Powell suggested there might be pausing for an extended period of time. And I think as we go forward, the U.S. is in the late cycle of the business cycle as well, so our view is that over the medium term at least the Dollar will also depreciate.”
Even in the event there is a trade truce between China and the U.S, and that takes pressure off the U.S. economy, BNP Paribas’s Shing does not think the Fed will start hiking aggressively again.
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“Look they (the Fed) are not in a big rush. Core inflation is not going up that quickly despite the rise in wage inflation and they are also in the U.S - don't forget - helped by the oil price,” says Shing.
The fall in the price of oil at the end of 2018 will probably be a factor which will dampen inflation in the U.S. in Q1 of 2019, and since rising inflation is the main factor which pressures the Fed to raise interest rates more aggressively they are more likely to stay on hold.
“The oil price has a lagged effect to inflation. It was coming down in December and the feed-through there is going to be somewhat negative for inflation, at least for the next few months, so they have a little window where they can sit and do not very much,” says Shing.
Another investor with a bearish view of the U.S. economy, is Kyle Bass, the CEO and founder of Hayman Capital Management. Bass thinks the U.S. will start to slow down in the second half of 2019 and enter a “mild recession” in 2020, neither of which bode well for the Dollar.
“The U.S. has this positive stimulus coming from the tax cut that we believe had a $250bn impact last year and over a $400bn total impact this year, but next year it will only be $150bn,” says Bass.
The ‘delta’ or the incremental impact of fiscal stimulus on economic activity, however, is set to decline more rapidly than the stimulus itself, says Bass, which is why he forecasts a slowdown evolving in H2.
"You have to look at the delta also. The delta from last year to this is plus 150 and the delta from this year to the next is minus 250, so I think economic activity will begin to wane in the back half of 2019 and by the middle of 2020 we are most likely to be in a recession,” says Bass.
Politics could also play a part in increasing the chances of a recession in the U.S.
"And given the conflict between the Democrats and Republicans in Congress, my guess is that the Democrats are not going to let Trump stimulate going into an election year. They are saying behind the scenes that he has taken the economy hostage and they are going to let him shoot it. So I expect the U.S. to be in a mild recession by the middle of 2020,” says Bass.
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