Forex Market: The Pain of the Strong Dollar

US President Joe Biden has dismissed warnings of a strong dollar, instead blaming poor economic policies and weak growth in other parts of the world for the weakening global economy.

He was not worried about the strong dollar, but about the rest of the world, the president said on a campaign tour on the west coast.

America's economy is strong.

With the sharp rhetoric, Biden is reacting to international criticism that was bundled at the annual meeting of the International Monetary Fund and World Bank last week.

Winand von Petersdorff-Campen

Economic correspondent in Washington.

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Rarely in the past 20 years has the dollar been as valuable as it is now.

Since January this year, it has gained 22 percent against the yen, 13 percent against the euro and around 6 percent against emerging market currencies.

A strong dollar puts a strain on countries and their economies that have taken on large debts in the American currency or that depend on raw material imports because these usually have to be paid for in dollars.

Now, of all times, an old rule of thumb is no longer valid: For decades, it was believed that when the dollar was strong, commodity prices were low, while expensive commodities were generally associated with low dollar valuations.

This inverse relationship does not currently apply.

Worse than in the United States

The strength of the dollar can be explained by the tight monetary policy of the American Federal Reserve (Fed), which acted more resolutely than other central banks: The International Monetary Fund counts the European Central Bank, the British central bank and the Japanese central bank among the more cautious central banks, albeit with an inflation rate of around 2 percent felt little reason to tighten.

Russia's war of aggression is the second factor: it has pushed up commodity prices, especially food and energy.

This development weighs particularly heavily on the euro area, has a mixed impact on emerging markets and is even positive overall for the United States.

At least part of the shift in currency relations can be explained by the fact that economic strength has changed.

Europe is even worse off than the United States.

The emerging countries are causing great concern and are always given special attention because of their potential for financial crises.

However, they've been doing surprisingly well so far.

On the one hand, according to an analysis by the International Monetary Fund (IMF), the central banks of many emerging countries have reacted particularly rigorously to inflationary tendencies and thus also shielded the value of their currencies.

Some central banks have also intervened in currency markets to support their currencies.

On the other hand, some countries benefit from the development of raw material prices.

These include flagging Brazil, whose currency has appreciated against the dollar since the beginning of the year: Brazil is a major exporter of soybeans, iron ore and crude oil.

Mexico's currency is also still robust thanks to the development of crude oil prices.

But that doesn't change the precarious trends.

The strength of the dollar weighs heavily on emerging and developing countries because of higher import dependency and because many bills have to be paid in dollars.

They have also accumulated large debts due to the pandemic, some of which are also in dollars.

Experience has taught us that a strong dollar weakens the growth of poorer countries over the long term, says former IMF chief economist Maurice Obstfeld.

In an article for the Brookings think tank, he recalls the early 1980s when Fed Chairman Paul Volcker managed to curb inflation in the USA.

Monetary policy, together with President Ronald Reagan's fiscal policy, have boosted the dollar to unprecedented heights.

But that was linked to a severe debt crisis in developing countries,

The IMF in particular is following one development with eagle eyes: that of capital movements.

Behind this is the anxious question of whether investors in emerging and developing countries have already begun the "flight to the safe dollar".

According to the IMF's analysis, this does not appear to be the case yet.

But some countries like Egypt, Tunisia and Lebanon are considered to be very fragile.