The US currency exchange rate is a volatile beast – who can say how the US Dollar will compare to the Pound, Rupee, or Euro by the end of 2015? Despite this, we’re going to look at current trends and events hitting the USD, and analyse how these may affect the value of the currency over the course of the year.
The Federal Reserve and Its Effects on the US Exchange Rate
The Federal Reserve (aka The Fed), impacts the interest rate in the US through setting the “discount rate”. This is the interest rate, set by The Fed, which large banks must pay to borrow money from the central bank. Any changes in this rate are passed on to the customer by the banks.
The Fed can also buy government securities to reduce the amount of money in the economy or sell securities to increase the amount of money in the economy. When there is less money in the economy, interest rates rise to cover the shortage (and vice versa).
But How Does the INTEREST Rate Affect Foreign Currency EXCHANGE Rates?
Here’s where it all ties in. When interest rates are high in a particular country, people are more likely to invest in the country (for example, buying bank assets), such as the US. This demand for investment increases the demand for US Dollars, pushing their price up against other currencies. If interest rates are low, people will take their money out of a country, and put it elsewhere – after all, would you rather have 1% interest on your savings in your local bank account, or 6% interest on your savings overseas?
Many experts believe that the Fed will either hold the discount rate where it currently is, or increase rates minimally over the next year. This means that the USD could potentially increase in value in 2015. Take this with a grain of salt, however, as the experts are often wrong as the Fed’s actions can be dictated somewhat by unpredictable events in the global economy.
Debt and Deflation in Europe – a Good Thing For the USD?
Currently, Europe is under pressure. Greece could pull out of the Eurozone, putting the future of the Euro itself in question – while the European Central Bank is set to begin “quantitative easing” (buying assets with printed money to increase cash in the economy). This will lower the Euro exchange rate, causing the USD, and other currencies such as the Rupee, PHP, and Yen to rise in comparison. However, it is important to remember that a high currency value can hurt a country; leading to an inability to sell exports due to their relatively high prices overseas. In the short term, the exchange rate may rise, but in the long term it may fall due to this damage.
Oil – Always Affecting the US Exchange Rate
Recent fracking in the US has led to excess global oil supply and a price war with rival producer OPEC, causing prices to rapidly drop (you may have noticed this at your local petrol pump). This has also been a key for US economic growth – creating many jobs and driving much of the recovery the US has seen in the last couple of years.
But lower prices are putting the brakes on fracking, squeezing producers through a decrease in revenue, but also encourage more consumer spending (as people are spending less of their total income on petrol). The danger now is that highly leveraged fracking enterprises will start to go bust – and many of the high-paying jobs these enterprises created will disappear along with them. Overall, lower oil prices will likely hurt the US economy, forcing downward pressure on interest rates (at a time when the Fed want to start raising them), making borrowing cheap and increasing spending.
Overall, it looks like the US currency exchange rate could go either way at this point, but is leaning towards decreasing slightly after all effects balance out. Keep in mind that nothing is certain in the world of finance, and there are always possibilities for unpredictable ‘Black Swan’ events to throw predictions off course. Who knows when and where disasters or miracles will hit?