The US dollar extended gains following Jerome Powell's testimony at the Jackson Hole Symposium. It is likely to climb to new highs amid further monetary policy tightening.
At the start of the new week, the greenback reached a 20-year high after Powell said the Fed would stick to aggressive tightening in the long term. This step is necessary to curb runaway inflation. Today, the greenback maintained its rally that began on August 26. Powell warned that US businesses and households will incur losses because it will take time before the Fed has taken inflation under control. Many analysts approve of the current hawkish stance as it is quite appropriate given the soaring inflation.
In his speech at the Jackson Hole Symposium, the Fed Chair paid great attention to the fight against high inflation. Powell believes that inflation at current levels could persist for a long time. He also emphasized the need to return consumer prices to the target level of 2%. To do so, the central bank will have to use all tools at its disposal. The main priority is to establish price stability in the US economy.
The majority of Ged policymakers are now hawks. They unanimously backed further sharp rate hikes. "The historical record cautions strongly against prematurely loosening policy," Powell warned. He also talked about the US strong labor market, which is "unbalanced". This is why it boosts inflation. All these factors are extremely bullish for the US dollar.
The euro remains weak versus the US currency but maintains a bullish bias against other counterparts such as the yen and the pound sterling. On August 29, the EUR/USD pair was trading near 0.9932. Analysts stress that Europe will have to inflict pain on local households and businesses to cope with rising inflation due to the growing energy crisis. The ECB is ready for further rate hikes despite the risk of a slowdown in the economy and a potential increase in unemployment.
According to preliminary estimates, inflation in the eurozone could approach a new yearly high of 9%. CPI data is due on Wednesday, August 31. If this scenario comes true, the ECB is likely to raise the interest rate by 75 basis points at the next meeting, scheduled for September 8.
Many Fed policymakers spoke in favor of further monetary tightening. "Our decision at the September meeting will depend on the totality of the incoming data and the evolving outlook," Powell said. President of the Cleveland Fed Loretta J. Mester said that the Fed was mulling over 50 and 75 basis points rate hikes at the September meeting. On top of that, 75% of analysts expect a 75 basis point rate increase in September, bringing it to the range of 3%-3.25%. Prior to Powell's speech, only 60% of respondents had expected such an increase.
After the speech, market participants finally realized that central banks will stick to aggressive tightening in the long term. However, it may adversely affect financial markets, e.g. trigger a recession.
Monetary tightening multiplies the risks for investors. For this reason, they are now getting rid of risk assets, buying safe-haven assets like gold and the US dollar, as well as US Treasury bonds. It will facilitate the short-term rally of the US dollar. However, the long-term one will hardly take place. Now, the greenback is strengthening across the board, crushing down its rivals. However, its further rise is questionable. Over the past month, traders have reduced their long positions on the US currency. Large hedge funds increased short positions by 11%. The continuation of the existing trend could undermine the rally of the US dollar.
Analysts are also concerned about the US's decision to weaponize the US dollar to punish other countries. It may force those countries to search for alternatives to the greenback. The national currencies of several countries, which help carry out cross-border payments, could replace the US dollar. If the US continues to use the greenback as a whip, its further dominance on Forex may end.