Via Financial Times

A surge in the dollar to a four-month high against other currencies has added another potential headwind to US growth, as the Federal Reserve weighs the risks to the economy of the intensifying coronavirus outbreak.

Since investor concern about the impact of the outbreak began to move financial markets four weeks ago, the dollar has climbed 1.65 per cent against a basket of other major currencies.

The currencies of emerging market countries, whose fortunes are most closely linked to the Chinese economy, have shed 2.36 per cent over the same period, according to a JPMorgan index.

Tom Lee, head of research at Fundstrat Global Advisors, said the dollar’s attraction as a safe haven currency introduced a risk to the US economy on top of any disruption caused by the coronavirus outbreak itself.

“The strong US dollar is ultimately a headwind for US growth because it makes exports less competitive, so it actually also puts some pressure on the Federal Reserve to keep monetary policy bias easy,” he said.

Line chart of US dollar index showing Strong dollar poses growth headwind

Officials at the Fed, including chairman Jay Powell, have been warning since last month that the effects of the coronavirus in China have presented a new risk to the outlook for the global economy. But they have not so far signalled a change in their expectations that US interest rates will stay on hold throughout 2020.

Market expectations for a quarter-point rate cut as early as July have climbed as the outbreak has intensified, however, according to calculations by the CME Group. At the start of the year traders had been pricing an interest rate cut during the second half of the year, most likely in September.

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Most analysts began the year expecting a weaker dollar, with Deutsche Bank, Goldman Sachs and Bank of New York Mellon among other investment banks calling for a decline. A de-escalation of trade tensions between Washington and Beijing in the latter part of 2019 had raised hopes for global growth relative to growth in the US.

That bet has been upended since the beginning of the year, however, first because of a rise in tensions between the US and Iran, which sent investors to safe haven assets such as US Treasuries, gold and the dollar.

Marc Chandler, chief market strategist at Bannockburn Global Forex, said the coronavirus had the potential to keep the dollar elevated. “Other geopolitical issues were more like shooting stars,” he said. “This is more like a comet with a big tail.”

Last week S&P Global Ratings revised down its growth forecast for China to 5 per cent from 5.7 per cent due to the virus.

Calvin Tse, senior currency strategist at Citigroup, said the economic outlook for the rest of the world looks much more difficult than that for the US — adding fuel to the dollar’s rise.

“We believe that the theme of US exceptionalism is one that is not going to end any time soon,” he said.