The true meaning and import of Donald Trump is an evolving mystery across a wide variety of fields, from trade to foreign policy to taxation. In few places has the apparent impact of the US president swung so dramatically as in the currency markets.
When Mr Trump was surprisingly elected in November, the dollar, along with US equities, set off on a tear upwards. The move rapidly became known as the Trump trade and was taken as evidence that the US economy, fuelled by forthcoming big infrastructure spending and tax cuts, was set for a period of surging growth.
As it happens, fiscal stimulus has failed to arrive on either the tax or the spending side, stock prices in the other developed markets have caught up with US equities and, most strikingly, the dollar has gone into sharp reverse. Having started 2017 at a 14-year high, the trade-weighted greenback has fallen by more than 9 per cent this year and is close to a low last seen in early 2015.
This may be bad for currency traders who bet heavily on Mr Trump. But it is, ironically, exactly what the president himself called for on the campaign trail in order to benefit American exporters. Though Mr Trump probably does not care, it also has happy implications for emerging markets.
Trying to explain movements in currencies generally tends to end up in post hoc rationalisation, which then fails to predict the next development. In theory the dollar’s weakness against the euro, for example, can simply be seen as evidence that the eurozone economy is surprising on the upside. But this has yet to be reflected in changing differentials in bond yields, which are the most obvious transmission mechanism from the economy to the currency.
The Federal Reserve has raised interest rates twice this year, while the European Central Bank is busy insisting that monetary policy is on hold for a long time to come. True, the dollar’s fall may reflect political uncertainty, particularly given the air of chaos surrounding Mr Trump’s administration. But then that might be expected to show up as a higher risk premium in US assets more generally.
Certainly, the traditional beneficiaries of a weaker dollar have been doing well. US corporate earnings, which are boosted by a lower exchange rate, have gone from strength to strength. And emerging market assets have also thrived. Iraq, no one’s idea of an investors’ darling, conducted its first independent bond sale in more than a decade this week, following Argentina’s successful placing of a 100-year bond in June.
However, given the uncertainty over just why the dollar has fallen, its beneficiaries should be grateful but also wary that the good times may not last. And if Mr Trump is expecting the weaker dollar by itself — together with aggressive mercantilism on trade — to fix the US’s current account deficit, he is likely to be disappointed. Exchange rates do affect the current account but they rarely rebalance it on their own.
Investors and companies convinced that the dollar will remain weak need to be aware that the cause of its recent movements remains unclear. Mr Trump’s administration may become engulfed in greater scandal, and that may weaken the dollar further, but neither the cause nor the consequence is certain. The greenback’s value appears at the moment to be generally beneficial in rebalancing the world economy and helping emerging markets regain confidence after a difficult few years. But it would be foolhardy to imagine that the dollar’s remarkable slide this year cannot quickly be reversed.