It’s little comfort that one of my 2017 forecasts is already being realized. The US dollar (USD) has started to pull back in relative value, and not because of a shift in its fundamental condition, or that an economic data point revealed a justified weakening. Instead, it’s due to President-Elect Trump merely commenting on his delight of a softer dollar. As a result, the dollar fell more than 1.00% (according to the WSJ Dollar Index) on Tuesday, January 17th. US Treasury yields are also heading lower, sending bond prices up, as they have given back nearly 30 bps from one month ago. The funny thing about this kind of knee-jerk market reaction is that Trump’s comments are actually a fair assessment of the dollar’s relative strength and its implications to US corporations, if such a condition continued. It’s simply amazing how a simple comment can illicit such swift reaction on something that’s not even news.
Since mid-2014, the USD (on an inflation-adjusted, trade weighted basis, compared to the Euro, Canadian dollar, Yen, Pound, and Swiss franc) is up more than 22%. To put that into perspective, foreign businesses purchasing US manufactured items or consuming US services would have seen their costs skyrocket in the past two years (see chart below), if they had continued to buy US products.
Trump’s main currency complaint has been that China’s a currency manipulator (a situation with which most economists, myself included, would agree). However, the dollar strength illustrated above does not even include China’s renminbi. The market dynamics supporting a strong USD go well beyond any specific currency exchange rate, and cannot be overly simplified. Moreover, China purchases very little from the US, compared to our primary trading partners of Canada, Mexico, Japan, UK, and the Eurozone, and is therefore not such an important factor in any USD discussion.
A strong USD has been blamed as one of the more serious factors weighing down on US corporate earnings, as sales through foreign business units have suffered. In fact, for S&P 500 index companies (as reported in the annual S&P 500 Foreign Sales Report), foreign sales are down to levels not seen since 2006. Though USD strength is a culprit, tax policy reform addressing domestic and foreign earnings would be a more valuable allocation of time and analysis to support (and even drive) greater US corporate earnings. Trump would be wise to make corporate tax policy a first 100 days agenda item.
The currency exchange market is by far the largest and most liquid market in the world. The USD does represent the vast majority of daily trading, more than 85%, and there’s no concern on this changing anytime soon. As such, it’s totally unrealistic that any specific administration policy (even one that seemingly attacks trade agreements) would have direct and immediate impact on USD exchange rates. Nonetheless, that won’t stop forex and equity markets from continuing to adjust to the new style of governance found in our “Twitterer-In-Chief”.