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Where the U.S. Dollar May Be Headed in 2024

With the Federal Reserve poised to begin cutting interest rates this year, the dollar may drift generally downward. However, its performance against individual currencies may vary widely.

We expect 2024 to be a year of diverging trends for the dollar. It will likely move lower on a broad trade-weighted basis early in the year but stabilize as the year progresses. Although we expect a general downward drift for the dollar, performance of individual currencies will likely vary widely. For those investing internationally, it means that there is opportunity when allocating to foreign markets, but it will be important to be selective. Currency fluctuations can affect returns—either positively or negatively.

The key driver of the dollar’s direction should be monetary policy. In 2024, central banks around the world are poised to cut interest rates. Among the major developed markets, the Federal Reserve is expected to lead the rate-cutting trend. Consequently, the dollar will likely continue to fall moderately as the yield differences between the U.S. and other countries shrink. However, we don’t expect a steep drop and look for performance to diverge when compared to various currencies.

Trade-weighted dollar likely to decline as U.S. interest rates fall

One of the challenges in talking about the outlook for “the dollar” is defining what measure of the dollar to use. With floating exchange rates, the dollar can and does move in many directions at the same time.

We tend to look at the Federal Reserve’s broad trade-weighted index for an overall measure of the dollar’s direction. Because the index is weighted by the value of trade with other countries, it is a way to assess the strength or weakness of the dollar based on its usage. However, it doesn’t always consider other forms of demand for the dollar, such as investment or safe-haven demand, and a broad index may obscure the dollar’s performance against individual currencies within an overall trend.

Nonetheless, a trade-weighted index can be a useful benchmark for measuring the dollar’s trend because it gives a broadly diversified snapshot of the dollar’s value and captures the largest trading partners for the U.S. among emerging-market countries as well as the major developed-market countries. The currencies of six countries or areas dominate the index, as those are the largest trading partners for the U.S.

The dollar began to fall in the middle of last year. After reaching a more than 10-year high in 2022 that saw it move up by nearly 50% from the 2011 low, the dollar has retraced about 10% from its peak. It is still higher than its five-year average.

The U.S. dollar is down from its peak in 2022

Chart shows the U.S. trade-weighted dollar index dating back to January 2014. The index reached a peak in mid-2022, and has since retraced some of its gains.

One of the key drivers behind the dollar’s strength in the past few years has been the relative strength of the U.S. economy and high interest rates. As the Fed signaled it was pausing interest rate hikes last fall, the dollar began to pull back. As we expect the Fed to shift to cutting interest rates in mid-2024, interest rate differentials should narrow, reducing the appeal of holding dollars. Nominal U.S. interest rates are still higher than those in most other G10 countries, but the difference has been narrowing.

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