Can Trump stop the dollar?

China, the European Union and others have been manipulating their currencies and interest rates lower, while the U.S. is raising rates while the dollars gets stronger and stronger with each passing day – taking away our big competitive edge. As usual, not a level playing field…

President Trump (via Twitter), July 20th, 2018



I am a low interest-rate person. If we raise interest rates and if the dollar starts getting too strong, we’re going to have some very major problems.

Donald Trump, May 5th, 2016



Janet Yellen should have raised the rates. She’s not doing it because the Obama administration and the president doesn’t want her to.

Donald Trump, November 3rd, 2015



2018 has seen the USD surge higher against both its G10 and emerging market peers, driven by a strong US economy and an increasingly hawkish Federal Reserve.  As Trump made clear earlier this month, whilst he is very happy with the first driver, he is not a big fan of the Fed’s eagerness to raise interest rates.  The key issue for the FX markets is therefore whether this verbal intervention by Trump, which appears to be an attempt to pressure the Fed into taking a less hawkish approach to monetary policy (and weaken the USD), will be effective. 


It is worth noting that Trump has a history of attempting to verbally intervene in the currency market, and the effectiveness of these interventions has not been huge.  Since he became President, Trump has attempted to talk the dollar down three times (including this most recent Tweet) and his Treasury Secretary has also attempted it once.  On average, these interventions have only served to temporarily weaken the USD by about 0.5%, and have done little to change the longer-term trend.  In addition, it is entirely possible that attempts to pressure the Fed into a slower pace of tightening monetary policy will have precisely the opposite effect; if Jay Powell was considering easing off on rate hikes anyway (if the US stock market were to weaken, for example) he may now feel unable to do so, as it would likely be perceived as a capitulation to Trump, thereby threatening the Fed’s highly prized independence. As such, we see a low risk of Trump’s verbal intervention directly weakening the USD significantly.


However, we do believe that Trump is serious about wanting to limit USD strength, and he does have other tools at his disposable besides his Twitter account. Specifically, he could: 1) formally classify other countries has ‘currency manipulators’ or 2) instruct the US treasury to physically intervene in the currency market (by buying foreign currencies and selling dollars). Whilst these steps are quite extreme (especially the second), Trump can be a pretty extreme guy, especially when he is unconstrained, and he would not need congressional approval for these actions.  As such, we would expect Trump to attempt some sort of direct intervention (i.e. not via the Fed) if the USD were to appreciate too much.  How much it ‘too much’ is impossible to know (and is likely to be at least partially a function of Trump’s emotional state at any given point in time), but somewhere approximating the late 2016 highs would probably be a good place to start.  As such, we see Trump’s intervention as being akin to an out-of-the-money USD call with a strike price of somewhere between parity and 1.10 (in EURUSD terms).  Trump has effectively capped the USD rally.  


Our bullish USD view is primarily based on monetary policy divergence (see chart) and the Fed’s hawkish bias.  It is important to note that the latter has not been fully ‘priced in’ either; currently the market is pricing in a slower pace of rate hikes than the Fed itself is expecting (by an average of about 50 basis points over the next three years) – if the Fed’s expectations are correct there is further upside for the USD.  That said, we do take the risk of Trump’s intervention seriously, which is in line with our forecasts that further USD appreciation will be limited over the next 12 months.  With a busy week to come in the markets, including a two-day Fed meeting starting tomorrow, we will soon get more information to confirm or refute this view. 



Chart: Spread between 5-year US treasury yield and 5-year Bund Yield; the USD carry continues to drive the USD higher

Source: Bloomberg



Author: Kevin Lester


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