The United States dollar has been rising since 2011, and this appreciation has accelerated considerably over the last few months. Many currency analysts expect this to continue as we approach year-end 2014 and enter 2015. There are a number of reasons for the dollar’s continued strength:
- The continued improvement in the U.S. economy
- Economic uncertainty/geopolitical risk in Europe
- Potential for rising interest rates in the U.S.
- Anticipated wind-down of the Fed’s quantitative easing
In an increasingly global economy, multinational corporations also feel an increase in wealth as the value of foreign companies declines relative to U.S. companies. Conversely, U.S. firms looking to grow through acquisitions may acquire an international firm as those businesses become less expensive due to a stronger dollar.
A strong dollar is good news for the U.S. economy, but it’s
not without risks. A stronger dollar may hurt the earnings of companies that rely heavily on exports as American-made goods become more expensive to foreign buyers. These companies must translate foreign earnings back to dollars, which hurts profits.
Commodities prices generally have an inverse relationship with the value of the dollar. A primary reason for this is that commodities are priced in dollars and trade in dollars. So as the value of the dollar increases, it takes fewer dollars to buy the same amount of commodities. Commodities prices have an impact on the stock market as the value of commodities-related companies in the energy sector may suffer. On a positive note, reduced commodities prices may help companies in certain industries, like airlines.
A stronger or weaker dollar doesn’t occur in a vacuum. When the dollar strengthens, its value increases relative to other global currencies. For example, if the current price of one Euro in dollars is $1.30 and you want to make a purchase costing 100 Euros, you would pay $130. If the dollar strengthened and the price of one Euro fell to $1.20, that same product would cost $120. This increase in purchasing power is positive for U.S. consumers as the cost of goods purchased overseas falls. With this increase, consumers perceive themselves as having more wealth, and consumer confidence increases.
Source: Northwestern Mutual