The Dollar Rally Might Be Over

The Dollar Rally Might Be Over

According to the Wall Street Journal dollar index, the U.S. dollar rose more than 7.5% in 2022. But some think the dollar's steep rally will not last much longer. So, what’s going on with the dollar and what can we expect in 2023?

After rallying for most of 2022, in the past few months, however, the dollar has shed off a chunk of its gains on signs that inflation was receding and in anticipation that the Fed would gear down the pace of rate hikes. Many market strategists and experts forecast the US to slip into a recession in the second half of 2023, which will take a toll on the dollar as economic confidence subsides.

The resilience of the US economy that supported the greenback in 2022 should start to fade, and we believe waning growth prospects will mark the inflection point for the dollar," a team of Wells Fargo strategists wrote in the bank’s economic outlook for 2023. "We expect the US dollar to soften 9.5% by the end of 2024," they added.

Morgan Stanley has cut its 2023 year-end forecast for the dollar index to 98. "Global growth is showing signs of buoyancy, macro, and inflation uncertainty are waning and the USD is rapidly losing its carry advantage," said currency strategists at Morgan Stanley led by James K Lord, in a note to Reuters. 

Diminishing inflation is only one factor leading to dollar weakness. According to a brief by J.P. Morgan Wealth Management shared with the Morning Star, “the other driver would be improving expectations for growth outside the U.S., particularly in China and Europe”.

Optimism over economic recovery in China following the country's ending of pandemic controls has been driving the currency upwards. After more than a week of strong gains against the dollar, on January 10, 2023, the currency reached an almost five-month high, reversing much of 2022's annual loss, which amounted to over 8% - the biggest in 28 years.

However, despite the subsiding pressure of anti-covid restrictions on the yuan, experts still predict two-way volatility in the yuan exchange rate will remain the norm throughout 2023. "The shrinking current account surplus and yield gap between China and the United States will keep adding depreciation pressure on the yuan," the Securities Times warned.

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