Looking ahead at Fed policy: The perils of a strong dollar

Roger Early, head of fixed income, explains the potential drawbacks of a strong dollar as the Fed contemplates further monetary tightening.


Roger Early
Executive Director, Head of Fixed Income, Co-CIO — Total Return Fixed Income

We’ve been concerned about the Federal Reserve’s operations, actually, for a number of years since the financial crisis. The constant addition of another wave of quantitative easing seemed to us to overdo what was needed within the economic environment. So, we weren’t surprised when the Federal Reserve finally reached a point where they felt they needed to raise short-term rates. We were surprised that the Federal Reserve raised rates at a point in time when the economy was probably weaker than it had been two years earlier.

Are we concerned about the impact of that rise in rates on the financial market singularly? No. There are many facets to the impact on the markets. The rise in rates certainly doesn’t appear to be pushing interest rates higher broadly across the fixed income markets; it seems to be putting more pressure on risk assets and equity markets. What concerns us the most, frankly, as we look forward — if there were any additional increases at the Fed, as opposed to other central banks continuing to have relatively easy policies — the concern is currency, because if the U.S. dollar, which has been stronger over the last year or so, continues to strengthen, it will in all likelihood put additional pressure on the U.S. economy based on the pressure in terms of relative pricing that happens for companies that are export-oriented. We’ve already seen that pressure — we’ve seen it in their profit and revenue statistics — and so, if it gets worse, it becomes a larger problem.

Last point, in terms of that currency issue is, think about all the borrowers around the world who have done their borrowing in U.S. dollar terms — emerging markets, for the most part. Emerging market debt, in many cases, because of the dollar strength, has been repriced by 5, 10, 20, 30 or more percent. It’s simply this: they owe it in dollars; they generate, if you will, reserves in their own currency, and the debt has been marked up by the strength of the dollar. That represents a serious challenge to those emerging market economies to be able to service their debt appropriately. These are pressures that will continue and the Federal Reserve going off on its own relative to other central banks probably helps to create those pressures.

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