The US Dollar index, a collection of a basket of currencies vs the US Dollar, closed slightly lower this week.
This means that the US Dollar has weakened and it seems like an extension of the current theme of US Dollar weakness.
This week, i will like to touch on the possible effect the current interest rate has on the US Dollar.
The Federal Funds Rate is now kept between 0% – 0.25%.
This makes it one of the lowest rate in the world and hence, the US Dollar is fast becoming a currency of choice for the carry trade.
This means the traders sell the US Dollar to hold on to high yielding currencies so as to earn the from the interest rate difference.
Businesses will also be seeking to borrow the US Dollar at a low interest rate and sell it off for a higher yielding currency for business.
No one wants to borrow at a high interest rate right?
All these activities include a common action. Selling of the US Dollar.
This marks an increase in supply and a decrease in demand.
As we all know in basic economics, what happens when supply exceeds demand?
The value drops!
With the economy still pretty much weak in the US ( By the way the number of bank closures in US has crossed 100. First time since 1992 ), it is unlikely that the Federal Reserve increases the interest rate anytime soon, unlike the Reserve Bank of Austrialia which recently increased to 3.25%.
The popular EURO currency interest rate currently stands at 1% and the pressure can be seem as we trade around 1.5000 now.
In summary, the lower the US Dollar’s interest rate is in comparison with the other currencies, the stronger the weakening pressure on it is.
While interest rates are not everything when it comes to the movement of currencies, it is definitely one of the stronger indicators.