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Since the start of the year, the US dollar has appreciated by roughly 1%, continuing a near-decade long trend that was only briefly interrupted in 2017. As USD is influenced by two broad forces, the balance of payment flows and financial flows, economists at JP Morgan expect the greenback to weaken in the next years but due to current risk-environment, the downward is not to unfold yet.

Key quotes

“The US maintains a very large current account deficit and has done so with few interruptions since the late 1970s. The increased presence of globalization, coupled with enormous US demand for foreign products will likely continue this trend. This large deficit floods the global marketplace with US dollars, putting downward pressure on the currency as supply balloons.”

“The relative attractiveness of U.S. financial assets is starting to wane. Interest rate differentials are narrowing as a result of COVID-19, with the Federal Reserve (Fed) intent on keeping the Federal funds rate at its lower bound for at least two more years; and the cyclical composition of many international economies and equity markets should mean that relative economic growth and equity market performance will be stronger overseas during the global recovery. This combination should pull foreign capital out of US assets, putting additional downward pressure on the dollar.”

“Still, investors should remember that these are large-scale structural forces that typically take years to fully manifest. We continue to believe that over the next 10 to 15 years, the dollar will weaken; but the exact catalyst for this trajectory change is elusive.”

“In the short-term, it appears that a third force – sentiment – is mightier than other longer-term drivers. Periods of relative global calm, like in 2017, allow for greater risk tolerance, pushing money into riskier assets like those overseas. This year’s bout of dollar strength, particularly in the first quarter, was a reflection of deteriorating sentiment thanks to the rapid and uncertain spread of COVID-19. Unfortunately, with trade tensions between the US and China re-escalating, signs of increased strain in the Korean peninsula and, of course, the fundamental COVID-related uncertainty in a pre-vaccine world, this does not seem likely in the near-term.”