US Dollar Index posts modest losses to near 98.50, US-China trade tensions in focus

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US Dollar Index softens around 98.60 in Tuesday’s Asian session.
Fears that a prolonged US government shutdown will hurt economic activity weigh on the DXY.
Traders will closely monitor the US September CPI inflation data later on Friday.

The US Dollar Index (DXY), an index of the value of the US Dollar (USD) measured against a basket of six world currencies, trades on a negative note near 98.60 during the Asian session on Tuesday. The DXY declines amid the ongoing US government shutdown. However, the downside for the DXY might be cap in the near term as trade tensions between the US and China calm somewhat.

"As a result, the markets are pricing in that things will de-escalate," Rodda added. "However, the markets are likely to remain jittery until such backdowns are explicitly announced,” said Kyle Rodda, a markets analyst at capital.com.

The ongoing US federal government shutdown could undermine the US Dollar against its rivals. The government shutdown has entered its 21th days with no end in sight, after senators failed for the 11th time to resolve the impasse in votes on Monday. The shutdown is now the third-longest funding lapse in modern history.

Federal Reserve (Fed) Governor Christopher Waller said that he is on board for another interest rate cut at the Fed's meeting later this month, citing the mixed readings on the state of the job market. Meanwhile, St. Louis Fed President Alberto Musalem said that he could support a path with another rate cut if more risks to jobs emerge and inflation is contained.

Fed's newest Governor Stephen Miran last week reiterated support for more aggressive rate cuts at the October meetings than the one favored by some of his colleagues. Dovish remarks from Fed officials could drag the USD lower in the near term.

The US September Consumer Price Index (CPI) inflation data will take center stage later on Friday due to the government shutdown-driven data drought. Both headline and core CPI are expected to show a rise of 3.1% YoY in September. Any signs of a hotter-than-expected US inflation could lift the US Dollar in the near term.

US Dollar FAQs

What is the US Dollar?

The US Dollar (USD) is the official currency of the United States of America, and the ‘de facto’ currency of a significant number of other countries where it is found in circulation alongside local notes. It is the most heavily traded currency in the world, accounting for over 88% of all global foreign exchange turnover, or an average of $6.6 trillion in transactions per day, according to data from 2022. Following the second world war, the USD took over from the British Pound as the world’s reserve currency. For most of its history, the US Dollar was backed by Gold, until the Bretton Woods Agreement in 1971 when the Gold Standard went away.

How do the decisions of the Federal Reserve impact the US Dollar?

The most important single factor impacting on the value of the US Dollar is monetary policy, which is shaped by the Federal Reserve (Fed). The Fed has two mandates: to achieve price stability (control inflation) and foster full employment. Its primary tool to achieve these two goals is by adjusting interest rates. When prices are rising too quickly and inflation is above the Fed’s 2% target, the Fed will raise rates, which helps the USD value. When inflation falls below 2% or the Unemployment Rate is too high, the Fed may lower interest rates, which weighs on the Greenback.

What is Quantitative Easing and how does it influence the US Dollar?

In extreme situations, the Federal Reserve can also print more Dollars and enact quantitative easing (QE). QE is the process by which the Fed substantially increases the flow of credit in a stuck financial system. It is a non-standard policy measure used when credit has dried up because banks will not lend to each other (out of the fear of counterparty default). It is a last resort when simply lowering interest rates is unlikely to achieve the necessary result. It was the Fed’s weapon of choice to combat the credit crunch that occurred during the Great Financial Crisis in 2008. It involves the Fed printing more Dollars and using them to buy US government bonds predominantly from financial institutions. QE usually leads to a weaker US Dollar.

What is Quantitative Tightening and how does it influence the US Dollar?

Quantitative tightening (QT) is the reverse process whereby the Federal Reserve stops buying bonds from financial institutions and does not reinvest the principal from the bonds it holds maturing in new purchases. It is usually positive for the US Dollar.