Noel Grima
There is, or may be, a bad, destructive side to the dollar (of this, more later) but over the past years it was the benign, positive, side of the dollar we have been seeing.
The dollar has been absorbing much that was bad in other currencies, especially the euro, the pound sterling and the yen, giving back a positive feeling.
The past years have also seen the dollar grow stronger. It was, although unnoticed by many, a mini-boom.
In short, the dollar is king, and may even get stronger.
This is the opinion of one of the foremost experts in Forex, David Bloom, Global Head of Foreign Exchange Strategy at HSBC, giving a well-attended conference at the Westin Pavilion for HSBC Malta officials and their business guests.
The HSBC FX Strategy department is rated as one of the best in the world according to various surveys.
In an interview to The Malta Business Weekly, Mr Bloom outlined his thoughts on six areas of concern around the world for the FX trader.
A strong USD can save the world: it can buy time, and the USDbull run has further to go. It is the strongest currency not only in 2014 but also in 2015.
It is expected to go to €1.09 by the end of the year but may even reach €1.05 but the prevalent opinion is that it will then climb back to €1.20 - €1.25 in the medium term.
But the USD can also be destructive. If, for instance, the euro were to break up, the strong USD could have destructive impacts on the entire world economy and financial markets. It was destructive, for instance, in the 1980s as well as in 1994 and in a minor way in 2008.
This time, it's different. The USD is strong because it is absorbing the deflationary pressures of the world via a strong dollar. In this deflationary world this is not about stealing growth but about stealing inflation. But the USD is nearing its upside constraint: as the stronger dollar can produce a deflationary impulse in the United States. Deflation is a problem for the indebted, because if you are in debt, your debts increase with deflation. That is why QE has been introduced: in a way one can say this punishes the good and rewards the bad. That is QE tries to create inflation that harms savers and rewards debtors.
So far, we have seen a 15% dollar rally but it is clear that at some stage there will be an aggressive US policy push back against the strong dollar. The US may thus begin to stop importing the problems from other countries, after years of absorbing their deflation problems.
Inflation in the eurozone has turned negative and is now in outright deflation. This led the ECB to plan QE. It is this that spurred the Swiss Central Bank to anticipate that the requirement for intervention was set to rise sharply. This is what most likely led to the recent decision by SNB to abandon its policy of stopping the Swiss franc from strengthening.
It is expected that CHF will see further gains versus a weakening EUR and one now looks to a EUR - CHF at 0.95 at the end of this year, and 0.92 at the end of next year.
The strong USD rally brought about strong US growth compared to other countries. It was the US that came up with QE first. That was in 2008. It took the ECB all these intervening years to come up with QE on its part.
Actually, it was New Zealand to come up first with higher interest rates and the US now says this will happen in 2015. Britain, Australia, Canada, Norway and Sweden are only expected to raise rates in 2016 but the only country to actually talk about rate rises later this year is the US.
It is only now that the ECB has got going. The EUR-USD rate is, as stated earlier, expected to fall to 1.09 by year end as against the HSBC previous forecast of 1.15. Mario Draghi, in other words, has delivered the goods. Once the EUR gets below 1.10, the implications for the US economy start becoming dominant and one expects a US policy push back against excessive USD strength. That is why HSBC does not expect the EUR to fall below parity.
Japan's experience provides the best parallel. QE was delivered to ease the deflation rate and the currency weakened as a result, thus helping drive up asset prices.
In this manner we learn that causality runs from the currency to asset markets, not the other way round. It is for this reason that it is believed the ECB's QE programme will keep the EUR under pressure.
How far can the USD rise? So far, we have seen a 15% rally, although 20% rallies have been common. It is believed that the USD rally has further to run, particularly against the EUR.
In truth, EUR-USD must do all the heavy lifting. How far can the EUR go? If the Eurozone wants a 15% depreciation of its trade-weighted exchange rate, just as the USD did during its QE1 and QE2, it must fall roughly 33% against the USD. But this would take the EUR below parity.
This could be termed as the dark side of the USD, the excessive strength of the USD impacting negatively on the US and hence negatively on the rest of the world. A side effect of a stronger USD will be lower imported inflation in the US. A stronger USD will also drive down commodity prices and this could help temper any upward pressure on US bond yields.
As for Japan, Abenomics and the central bank's QE has not worked very well. It was the extreme option but did not have the same success as QE in the US. China's policy actually matters far more than Japan's in the context of global growth. China has progressed from turning out cheap products by the million to now producing top end, technologically-advanced, products.
But it is in Europe that the future of the EUR is being fought. There is an ongoing flare-up of Eurozone sovereign concerns: in the UK there is an election in May which may be followed by a divisive EU in/out referendum. Meanwhile, in the Eurozone there is rising euro-skepticism which may lead to a decrease in political will for unity. There is also a stronger fiscal position in the periphery which may lead to an increased incentive to leave.
Eurosceptic parties are enjoying a greater following, as seen in the huge rise of Syriza in Greece, which won the election, together with the sizableincrease in popularity for UKIP in the UK, the National Front in France, the Five Star Movement in Italy and for the much smaller Alternative for Germany.
In other words, the USD can help but it cannot save the world. It is different this time around, it is about stealing inflation, not growth. On the other hand, extreme USD strength would be harmful. Ideally, there should be a currency accord, but this would be very difficult to achieve.
Two years ago, people were saying the USD was finished. Now the USD is king and looks set to extend its reign.