Global business splutters, and the pound slides to a record low against the dollar, while Russia’s invasion of Ukraine sends the dollar surging anew.
It’s a powerful reminder that the U.S. dollar is the dominant world trade and finance currency. The Fed’s determination to crush inflation at home by pushing interest rates up will profoundly affect the rest of the world. The dollar’s surge this year has triggered financial crises in emerging economies, driven up the cost of food, fuel, and medicine for families in countries like Nigeria and Somalia, where hunger is rife, pushed debt-ridden Argentina, Egypt, and Sri Lanka closer to default; and sent stock and bond investors reeling worldwide.
The dollar’s index against the most traded currencies (DXY) hit its highest level since May on Tuesday – just as U.S. markets return from the long Labor Day weekend, still digesting Friday’s benign employment report of brisk job creation, rising workforce participation, and cooling wage growth. Investors are also eager to see whether the June reading on the U.S. manufacturing sector, due out at 10:00 a.m. EST, will show a rebound after the weak reading in July.
But the soaring dollar is also a threat to corporate profits. For multinational companies that sell many of their products overseas, the higher dollar makes those goods more expensive in local currency terms, which eats into sales. And with about 30% of S&P 500 revenue coming from outside the U.S., American firms have good reason to be nervous.
The dollar’s rise has exacerbated the broader decline in oil prices, which has made it more difficult for U.S. shale producers to make money. And in many cases, those producers are leveraged up to the point that even a relatively modest drop in crude oil prices can wipe out their monthly earnings.
The Fed’s fight against inflation is causing all sorts of pain abroad, and that’s why it is a good idea to think twice about the dollar’s recent rally. If the soaring greenback continues for too long, it could trigger bouts of volatility reminiscent of the market-based 1997 Asian debt crisis or the ill-fated 1985 Plaza Accord that pushed the world into recession.