In Short: A plot twist for global currencies


Any given currency’s valuation is always a story with two tales, an account of two different economies. The recent strength of the euro against the U.S. dollar has been just that: a blend of narratives. There has been a growing body of evidence that eurozone affairs are steadily improving, while the U.S. reflation thesis is simply failing to materialize. These dual factors have contributed to the euro’s nearly 6% gain against the dollar this year, making it the best performing currency versus the dollar within the G10.

Once upon a time, the markets expected the dollar to strengthen further in 2017, living in a land of fiscal expansion and bountiful inflation. The reality, however, has been starkly different and this story is becoming a global novel. So far this year, the dollar has endured losses against a host of currencies despite two rate hikes by the Federal Reserve. For instance, the once battered Mexican peso is up 14% on the year, and even the British pound—beleaguered by its own storyline—has managed to strengthen 2.5% versus the dollar. So where did this American fairytale go wrong?

The election of Donald Trump opened a new chapter into what was already a protracted dollar bull cycle. Few doubted the imminent arrival of fiscal expansion, tax reforms and repatriation incentives. However, facts quickly turned into fictions, and reflation promises faded. Emerging-market currency strength has been quite evident all year, but dollar weakness also has begun to permeate most developed economies. Absent of any new meaningful initiatives from the Trump administration, the bull cycle is beginning to show its age. In the coming months, fiscal initiatives likely will prove the most important factor in determining whether this tale ends happily or not for the dollar.