US Dollar Index declines to near 104.00 due to heightened expectations of Fed rate cuts

Jul 22, 2024 7:31 AM

The US Dollar loses ground as the Fed may cut interest rates in September.
CME Group’s FedWatch Tool suggests a 91.7% probability of a 25-basis point rate cut in September.
US President Joe Biden abandoned his re-election bid and endorsed Vice President Kamala Harris to face Republican Donald Trump.

The US Dollar Index (DXY), which measures the value of the US Dollar (USD) against six other major currencies, edges lower after two days of gains, trading around 104.20 during the early European hours on Monday.

The dovish sentiment surrounding the Federal Reserve's policy stance puts pressure on the Greenback. According to CME Group’s FedWatch Tool, the markets show a 91.7% probability of a 25-basis point rate cut at the September Fed meeting, up from 90.3% a week earlier.

US President Joe Biden abandoned his re-election bid on Sunday under growing pressure from his fellow Democrats and endorsed Vice President Kamala Harris as the party's candidate to face Republican Donald Trump in the November election, according to Reuters.

Read this article: US President Joe Biden stands down from reelection, endorses Kamala Harris

Federal Reserve Bank of New York President John Williams stated on Friday that the long-term trends that caused declines in neutral interest rates before the pandemic continue to prevail. Williams noted, "My own Holston-Laubach-Williams estimates for r-star in the United States, Canada, and the Euro area are about the same level as they were before the pandemic," according to Bloomberg.

Fed Chair Jerome Powell mentioned earlier this week that the three US inflation readings of this year "add somewhat to confidence" that inflation is on course to meet the Fed’s target sustainably, suggesting that a shift to interest rate cuts may not be far off.

Traders await the release of Global Purchasing Managers Index (PMI) and Gross Domestic Product (GDP) data later this week to gain fresh insights into the economic conditions of the United States (US).

US Dollar FAQs

What is the US Dollar?

The US Dollar (USD) is the official currency of the United States of America, and the ‘de facto’ currency of a significant number of other countries where it is found in circulation alongside local notes. It is the most heavily traded currency in the world, accounting for over 88% of all global foreign exchange turnover, or an average of $6.6 trillion in transactions per day, according to data from 2022. Following the second world war, the USD took over from the British Pound as the world’s reserve currency. For most of its history, the US Dollar was backed by Gold, until the Bretton Woods Agreement in 1971 when the Gold Standard went away.

How do the decisions of the Federal Reserve impact the US Dollar?

The most important single factor impacting on the value of the US Dollar is monetary policy, which is shaped by the Federal Reserve (Fed). The Fed has two mandates: to achieve price stability (control inflation) and foster full employment. Its primary tool to achieve these two goals is by adjusting interest rates. When prices are rising too quickly and inflation is above the Fed’s 2% target, the Fed will raise rates, which helps the USD value. When inflation falls below 2% or the Unemployment Rate is too high, the Fed may lower interest rates, which weighs on the Greenback.

What is Quantitative Easing and how does it influence the US Dollar?

In extreme situations, the Federal Reserve can also print more Dollars and enact quantitative easing (QE). QE is the process by which the Fed substantially increases the flow of credit in a stuck financial system. It is a non-standard policy measure used when credit has dried up because banks will not lend to each other (out of the fear of counterparty default). It is a last resort when simply lowering interest rates is unlikely to achieve the necessary result. It was the Fed’s weapon of choice to combat the credit crunch that occurred during the Great Financial Crisis in 2008. It involves the Fed printing more Dollars and using them to buy US government bonds predominantly from financial institutions. QE usually leads to a weaker US Dollar.

What is Quantitative Tightening and how does it influence the US Dollar?

Quantitative tightening (QT) is the reverse process whereby the Federal Reserve stops buying bonds from financial institutions and does not reinvest the principal from the bonds it holds maturing in new purchases. It is usually positive for the US Dollar.

Disclaimer: For information purposes only. Past performance is not indicative of future results.