EN United States
Macroeconomic & Geopolitical

How The Dollar Explains the State of the World

18 October 2019 - 3 min read

The global economy may be changing more slowly than you might think. How the dollar continues to serve as the global currency standard and what it tells is about the economy and the world.

WASHINGTON, D.C.—Stare hard enough at a dollar bill, which they actually print here, and you can get a pretty good sense of the state of the economic cycle, the structure of the global economy and even the future of the free world.

Assembled bankers and investors at the IMF and World Bank Annual meetings last week shared their worries about deteriorating economic data and unraveling political alignments, but there seemed very little likely to change either the current value or long-term role of the dollar. 

Stronger for longer

Pure economic analysis would hardly suggest the dollar should have strengthened 14% over the last five years1. Mounting government debt, a widening deficit and a bitter budget all point to a currency that should not retain value. Add in a rising current account deficit, looser monetary policy and the uncertainties of a major election, and the case to short the dollar becomes stronger still.

But, of course, a currency’s value is measured against other currencies, and the picture is largely worse elsewhere. European growth may barely top 1.4% next year if the IMF’s forecasts are close. Japan may not grow at all. With $13 trillion in bonds priced to deliver negative yields, the euro and the yen don’t look very attractive either2.

“Perhaps most surprising is the continuing faith in the dollar amid all the concern that U.S. politics have turned more inward and self-interested.”

Meanwhile, as much as the president complains about the Fed’s role in keeping the dollar strong, his own tariffs have probably played a greater part as they deliver shocks to America’s trading partners. This has weakened their currencies directly and hands an excuse to countries with managed currencies to float a little lower.

What could lead it weaker? A U.S. recession, of course, perhaps triggered or aggravated by the strong dollar itself. A strong dollar keeps imports cheap and inflation low, but it hurts both U.S. exports and foreign revenue, which now account for 43% of the S&P 500 companies.

But, again, it’s a relative game, and the U.S. slowdown would have to be sharper and deeper than anything in Europe or Japan, which is hard to imagine today.

What your money can buy

Where investors complain about the dollar’s temporary strength, governments bemoan its dominance of the global financial system. Foreign markets are now highly dependent on dollar liquidity for stability and thus deeply affected by U.S. monetary policy.

U.S. financial sanctions rankle, fueling complaints about Washington’s arrogance and overreach. Iran and Russia have searched for ways around the global financial system dominated by the dollar, but with very limited success. Even as Europeans diverged from the Trump Administration on Iran sanctions, their effort to develop a quasi-barter channel has yet to deliver results.

The problem, quite simply, is that there are so many more goods, services and financial instruments you can buy with dollars than with anything else. That’s why 44% of all foreign exchange transactions involve dollars and 40% of all international bank transfers are in dollars.

What is perhaps truly striking is that while the U.S. accounts for 21% of global trade, a little over 40% of global trade is invoiced in dollars. Dollars are just more useful as a unit of account for businesses with suppliers and customers across many countries. Firms can better analyze their own profitability, and customers can better compare prices.

These are neither inevitable nor permanent patterns, but they won’t be disrupted without a viable alternative.

Historic Trust

Perhaps most surprising is the continuing faith in the dollar amid all the concern that U.S. politics have turned more inward and self-interested. Some two-thirds of all reserves are still denominated in dollars. More striking, approximately 60% of U.S. dollar bills are now overseas. Even as Turkish and U.S. troops line up on opposite battle lines and the Turkish government pursues new ways to settle its trade with Russia in rubles, more than half of all Turkish bank deposits are in dollars.

THE U.S. DOLLAR AND THE TWIN DEFICITSSource: Bloomberg as of September 30, 2019

The faith in its institutions and the economy’s ability to grow remains. As a test, ask yourself: if you had to put all your money in one currency and not touch it for 25 years, which currency would you choose? You are among a rare few if you chose renminbi or bitcoin. 

Overall, the dollar’s value, role and prestige suggest a world that may not be changing as quickly as the headlines might lead you to believe. Some may find that troubling, but for investors it may be reassuring in a world fraught with turmoil.

1. U.S. Dollar Index, Bloomberg as of October 18, 2019
2. Bloomberg Barclays Index as of October 18, 2019

Any forecasts in this material are based upon Barings opinion of the market at the date of preparation and are subject to change without notice, dependent upon many factors. Any prediction, projection or forecast is not necessarily indicative of the future or likely performance. Investment involves risk. The value of any investments and any income generated may go down as well as up and is not guaranteed by Barings or any other person. PAST PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS.

Read More Less

Any investment results, portfolio compositions and or examples set forth in this material are provided for illustrative purposes only and are not indicative of any future investment results, future portfolio composition or investments. The composition, size of, and risks associated with an investment may differ substantially from any examples set forth in this material No representation is made that an investment will be profitable or will not incur losses. Where appropriate, changes in the currency exchange rates may affect the value of investments. Prospective investors should read the offering documents, if applicable, for the details and specific risk factors of any Fund/Strategy discussed in this material.

Barings is the brand name for the worldwide asset management and associated businesses of Barings LLC and its global affiliates. Barings Securities LLC, Barings (U.K.) Limited, Barings Global Advisers Limited, Barings Australia Pty Ltd, Barings Japan Limited, Barings Real Estate Advisers Europe Finance LLP, BREAE AIFM LLP, Baring Asset Management Limited, Baring International Investment Limited, Baring Fund Managers Limited, Baring International Fund Managers (Ireland) Limited, Baring Asset Management (Asia) Limited, Baring SICE (Taiwan) Limited, Baring Asset Management Switzerland Sarl, and Baring Asset Management Korea Limited each are affiliated financial service companies owned by Barings LLC (each, individually, an “Affiliate”).

NO OFFER: The material is for informational purposes only and is not an offer or solicitation for the purchase or sale of any financial instrument or service in any jurisdiction. The material herein was prepared without any consideration of the investment objectives, financial situation or particular needs of anyone who may receive it. This material is not, and must not be treated as, investment advice, an investment recommendation, investment research, or a recommendation about the suitability or appropriateness of any security, commodity, investment, or particular investment strategy, and must not be construed as a projection or prediction.

Unless otherwise mentioned, the views contained in this material are those of Barings. These views are made in good faith in relation to the facts known at the time of preparation and are subject to change without notice. Individual portfolio management teams may hold different views than the views expressed herein and may make different investment decisions for different clients. Parts of this material may be based on information received from sources we believe to be reliable. Although every effort is taken to ensure that the information contained in this material is accurate, Barings makes no representation or warranty, express or implied, regarding the accuracy, completeness or adequacy of the information.

Any service, security, investment or product outlined in this material may not be suitable for a prospective investor or available in their jurisdiction. Copyright in this material is owned by Barings. Information in this material may be used for your own personal use, but may not be altered, reproduced or distributed without Barings’ consent.

19-987405

X

We use cookies on our website to provide you with the best experience. By proceeding to our site you agree to our Cookies Notice and our site Terms and Conditions.