Earlier this week, US president-elect Donald Trump, hinted that he thought the dollar might be too strong.
It sounded for a moment like we might go back to “business as usual” – with the US being in favour of a strong dollar in principle, but rather more uncomfortable about the reality.
And it’s true that it won’t be easy for Trump to achieve his goal of boosting US manufacturing if the country has a strong currency.
But he might have a struggle on his hands…
Janet Yellen seems very hawkish all of a sudden
Trump advisor Anthony Scaramucci, of investment group SkyBridge Capital, is over in Davos just now. It’s his job to present the sensible face of Trump to a rattled global elite. He’s talking about the need to stop hollowing out the middle class and, in effect, spread the benefits of wealth creation more evenly.
But in between patting bigwigs on the head and reassuring them that Trump is less “out there” than he sometimes appears, he also chucked in his tuppence on the US dollar. He pointed out that the administration is aware of the strength of the currency and the challenges that can create.
However, he said: “If you get better than expected growth in the US, even if the dollar is going up, we saw in the 1980s, you can have a strong dollar and fairly robust growth in the US that will lift the global economy.”
So for now, it doesn’t look as though a weak dollar policy is on the menu.
That was confirmed by US Federal Reserve chief Janet Yellen yesterday, when she outlined her take on monetary policy for the next few years.
It’s the Fed’s job to fiddle with monetary policy in such a way as to keep as many people in work as possible, and to keep inflation around about the 2% mark.
(The idea that one centralised agency can actually exert any serious level of control over those variables strikes me as naive at best, but let’s humour them).
The US central bank head is optimistic, by the sounds of it. For now, reckons Yellen, it’s nearly a case of “job done”. “It’s fair to say, the economy is near maximum employment, and inflation is moving toward our goal.”
As a result, she reckons that between now and and 2019, she and her team will raise interest rates “a few times a year”.
It’s interesting. Until Donald Trump was elected, you’d have said that Yellen was basically a dove. She rarely missed an opportunity to calm the markets and to hint that there was no real rush to raise rates.
But I think it’s fair to say that she’s changed her tune since the election. There’s a hawkish edge to her pronouncements. She even sounds as though she might be worried – rather than intensely relaxed – about the Fed getting “behind the curve”.
“Waiting too long to begin moving toward the neutral rate could risk a nasty surprise down the road. Either too much inflation, financial instability, or both.”
The markets certainly thought her take was more aggressive than she has been in the past – both the US dollar and US bond yields rose (higher bond yields mean lower bond prices) in reaction. So what’s changed? Clearly, it’s the new president.
One factor is that Yellen is only human. I suspect she didn’t vote for Trump. He’s not shown her a great deal of respect. So I don’t think that she feels any need to go quite as easy on the economy – or maybe even the market – as perhaps she did before. If a more aggressive Fed policy results in a recession, then so be it.
But it’s also about Trump’s policies, and how high hopes for them have affected markets. The Fed has shown that it’s very sensitive to fluctuations in the S&P 500 in the past. So far, markets have been very happy with Trump’s election. So the Fed may be taking its queue from them. Until and unless there’s a market panic, don’t expect the hawkish tone to subside.
The one-way bet on the US dollar
Of course, the most obvious trigger for a spasm of concern would the strong US dollar itself.
The US currency is rising for pretty obvious reasons. The US economy is healthier than most other developed economies. It’s the only major economy where the central bank is almost 100% certain to be raising rates next rather than lowering them or printing more money. You couldn’t say that with any sort of conviction about the UK or Japan, and you certainly couldn’t say it about the eurozone.
So there’s every reason to want exposure to the US dollar. And at the moment, everyone does. (This treatment of the rising dollar as a one-way bet is the main reason I’m looking for reasons for it to be proved wrong).
The problem is, a strongly rising US dollar is not great for everyone else. Put simply, every country in the world uses dollars in some way or other. If they become more expensive, that tightens monetary policy everywhere, not just in the countries that peg their own currencies to the dollar.
Can the rest of the world cope with a strong dollar? Until something breaks, the answer is that they might just have to.
We’ll be keeping a close eye on this. But in the meantime, for an idea of what Trump’s policies might mean for the US economy and the rest of the world, make sure you get hold of this week’s issue of MoneyWeek magazine, out tomorrow.