ARTICLE
Bannockburn Global Forex
The dollar's bull run was extended in September. The main focus was Fed policy's aggressiveness, which looks set to continue. The Fed's guidance, which the market accepts, is that it most likely will lift the Fed funds target rate another 125 bp in Q4. Officials have become more candid that tightening financial conditions will cause more pain, which probably means higher unemployment and weaker asset prices. The argument is the more significant risk is that inflation expectations become entrenched, requiring stronger and more painful action later. The pain minimization argument applies to the international community as well. The world is sensitive to US monetary cycle, but it also makes a handy target to explain poor management, decision-making, or more general challenges. The main challenge for many countries is the surge in energy and food prices. The dollar's appreciation exacerbates those forces. If the Fed had to be even more aggressive and drive the US economy into an early 1980s Volcker-like recession, that would be a worse outcome. The US is the largest economy, and its rivals have been hobbled, partly, if not mostly, by their own hand. Russia's invasion of Ukraine is turning into a blunder of historic proportions and has undermined China's efforts to develop key economic and financial ties to Europe. The response to Putin is partly a stronger NATO, but also it is further encouraging the arms race in the Asia Pacific. The popping of China's property bubble and the zero-Covid policy has sapped the world's second-largest economy. Europe is on the verge of a recession. Inflation does not appear to have peaked, and the European Central Bank is earlier in its adjustment. Volatility is risk, and volatility in the foreign exchange market, like other parts of the capital markets, is elevated. There have been several shocks in September that helped generate the volatility. As is its wont, the market seemed to exaggerate and overshoot. We look for a quieter October and one that is conducive to a corrective / consolidative phase for the dollar.