The recent economic data has led many to predict a tough week ahead for the Dollar. The data released by the Federal Reserve last week showed that third-quarter GDP growth was revised up only 3%. Worse still is the data showing consumer debt rising at an annual rate of 18% annual growth, far outpacing any similar period in the past history of the US economy. With these facts in mind, it is no wonder why Dollar faces tough week ahead.
Consumer spending cuts, tax hikes and slower growth are all negative factors. In addition, we face deflation with markets tightening their belts. The data released last Friday confirmed that deflation remains a key challenge for this economic cycle. In fact, the inflation gauge showed a marked slowdown, dipping under its benchmark for the first time since July.
Oil prices have continued their fall, hitting a five-year low. The drop in crude is being driven by lower demand from Asia, while supplies continue to rise in North America and Europe. This situation is bullish for gold and silver, which are closely tied to oil prices and the level of global economic activity. A stronger dollar pair would have a strong bullish effect on gold and silver, thus acting as a tailwind for the dollar.
Another factor which is having an impact on the American economy is the decision by the European Central Bank to tighten policy again. The EUR/USD has lost ground against most major currencies due to this announcement. European officials believe that it will help raise mortgage rates and reduce debt. This would, in turn, help to raise European GDP growth. But what does this have to do with the US?
The EUR/USD is the main economic indicator for oil prices, and a weakening EUR/USD would weigh heavily on commodity prices across the globe. Further, the European Central Bank increased its interest rates last month, but this is now back on the negative side. If this continues, the impact on the USD/ EUR would be severe. Meanwhile, the US is weighing up its options with the recent announcement of more oil drilling in the Arctic and other areas of the world. The two major oil producing countries, Saudi Arabia and Russia, have agreed to increase output, in an effort to support their recovery from the recent financial crisis.
With all these economic data points in context, the EUR/USD is having a bullish bias, as it is expected to recover from its recent losses. But, a weaker Euro would most likely cause oil prices to rise, offsetting any gains in the EUR/USD. This is contrary to earlier forecasts by the European Central Bank. Whether this will work or not remains to be seen.
One other possible negative impact of the data is that it may encourage the European Central Bank to go with its previous rhetoric and increase interest rates further. The last time this happened, in late 2021, the EUR/USD lost ground against the USD. This led to increased unemployment and rocketing inflation in Germany. The latest economic data might trigger a move towards this direction again.
This is all good news for the EUR/USD and the American economy. But there are risks involved. The recent economic data has caused many short term and long term effects. Whatever the case, the EUR/USD is an excellent currency buy at current levels and one that is ripe for further appreciation.
What does this mean? If oil prices continue to remain low, the impact on oil importers / exporters and the dollar will be significant. For example, if the impact is substantial and the dollar continues to weaken versus other major currencies, then the impact on the U.S. economy will be felt. A lower dollar will reduce demand for the dollar by reducing the supply of available oil.
How can you protect yourself? It is unlikely that the impact on oil will be as great as the recent economic data indicates. If the impact is significant, then you need to buy the dollar before it weakens versus the rest of the major currencies. That means being prepared to take advantage of the low oil price and buying dollars when the EUR/USD begins to appreciate against the USD. If oil prices continue to remain low, then this protection will be extended into the end of the year.
There is a chance the economic data will confirm that the economic data will show that the EUR/USD has strengthened versus the dollar in the second half of the year. If this occurs, then the EUR/USD may become more vulnerable to a sharp EURUSD pullback. However, the EUR/USD is still a strong currency based on its strength in the first half of the year. In my opinion, a strong EURUSD serves to weaken the USD and reduce U.S. Dollar strength. The EUR/USD should be viewed as the greater long-term risk to the U.S. economy than the EUR/USD.