Recent verbal and tweeted intervention by President Trump calling for a weaker USD has put currency policy back into the spotlight. A few actual and proposed actions have also heightened attention on currency policy.
This includes the US Treasury’s tighter criteria for assessing possible currency “manipulation” in its latest “Foreign Exchange Report” and the Commerce Department’s proposed regulation that would render currency “undervaluation” to be considered as a subsidy to foreign exporters that may be subject to countervailing duties.
The resilient USD stands in the way of Trump’s aim to boost exports and support the US manufacturing sector. Trump has lobbied the Fed to ease policy, which could potentially weaken the USD. The Fed has shifted and is guiding toward rate cuts. But given solid US consumer spending growth and the lacklustre growth picture in the rest of the world, we do not think the prospects of modest Fed easing will send the greenback sharply lower. With ‘Twittervention’ facing diminishing returns, the risk is low but increasing that Trump may escalate his threat to cheapen the USD with direct currency intervention.
US FX intervention is a rare occurrence post-1995
Source: Federal Reserve, Bloomberg, Bank of Singapore
FX intervention is a rare occurrence over the past two decades, with benign neglect being the norm. The last major period when the US authorities sought to materially weaken the USD was in the mid to late 1980s, beginning with the Plaza Accord in September 1985. In more recent history (since 1995), the US has only intervened three times (in 1998, 2000, and 2011), with US authorities acting together with other major central banks like the Bank of Japan (BoJ) and the European Central Bank (ECB) to contain excessive currency volatility.
However, we are in a time of extraordinary politics. Investors must be prepared for some extraordinary policies.
Since the US Treasury is in charge of FX policy, intervention to weaken the USD could conceivably be possible as a process matter. We doubt the medium-term success of such intervention, however.
For one, at the time of the Plaza Accord, every member of the G5 bloc (France, West Germany, Japan, UK, and US) was concerned about the strength of the USD, not just the US. However, there is currently little evidence that central bank peers such as the ECB or the BoJ would support any of the Treasury’s efforts to sell USD. USD selling interventions are therefore not likely to be coordinated and should be less effective. Worse still, there is a danger that other countries could come together to counter USD sales, adding fuel to the currency ‘ugly’ contest to the benefit of gold.
Second, the USD’s resilience is mostly the result of US out-performing other economies rather than currency manipulation by others. The USD's yield advantage over other G10 currencies helps it in a low volatility environment, and US economic outperformance amid trade policy uncertainty makes the USD a safe haven for the high volatility environment. It will be difficult for currency intervention to sustainably weaken the USD unless accompanied by far looser monetary policy that well exceeds market expectations of the current modest Fed easing it has already priced in. Regardless of where the US administration takes currency policy, the Fed is independent on monetary policy.
Currency intervention would be fully sterilised by the Fed to avoid looser-than-desired monetary policy. This in turn would limit the efficacy of currency intervention.Disclaimer applicable to recommendation
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