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USD Forecast: DXY Holds Gains as Fed’s Extended High Rate Plan Boosts King Dollar

Last Updated October 28, 2023 2:31 PM
Giuseppe Ciccomascolo
Last Updated October 28, 2023 2:31 PM
Key Takeaways
  • US dollar strengthened against other major currencies despite several challenges.
  • Pandemic, wars, energy crisis haven’t undermined USD role as the favorite traders currency.
  • But what’s ahead for the benchmark of the forex market?

Despite the pandemic, Russia-Ukraine war, energy crisis, economic weakness, and high interest rates, the US dollar continues to be the favored currency of forex traders. Also benefiting from weakness in the euro, sterling, and, in particular, the yen, the greenback has strengthened over last couple of years and the Dollar Index continues to grow against a basket of other currencies.

But what made the dollar so strong and capable of withstanding the shocks caused by external events that weakened the economy?

What Is USD?

The dollar is the currency of the USA, considered the benchmark par excellence in the currency market and the basis of trade throughout the world.

The American federal government adopted the currency in 1785. Until 1893, silver and gold reserves supported the US dollar exchange rate in a system known as “bimetallic exchange.”

The significance of silver declined, leading to the abandonment of its role in controlling the exchange rate. Instead, the Gold Standard was adopted, pegging the exchange rate solely to the value of gold. While this system underwent modifications, it remained in place until 1971.

From 1944 to 1971, the US dollar was the pivot currency of the fixed exchange rate agreement known as Bretton Woods, which provided that the currency of the countries adhering to the agreement had to maintain an exchange rate with the dollar fixed at $19 per ounce of gold, stabilizing the value of trade and exchange and limiting capital flows.

The United States abandoned the Bretton Woods Gold Exchange Standard, in place until 1971, to favor flexible exchange rates and combat global inflationary pressures. Since then, the US dollar’s exchange rate has been market-driven, with monetary and fiscal authorities working to prevent devaluation and provide stability to foreign investors.

How Did the US Dollar Perform in 2023?

In October 2022, the US Dollar surged to a two-decade high against other major currencies. Earlier in the year, several US economic indicators, from a slowdown in gross domestic product to moderating inflation  and declining energy prices, signaled a peak in interest rates and a weaker dollar.

The DXY index, which compares the dollar against a basket of six currencies including the euro, sterling, and Swiss franc, has risen by 5% over the past two months, though it hasn’t strayed far from early 2023 levels.

What triggered this shift? The US better-than-expected growth, driven by higher wages and a robust labor market, accounts for much of this recovery. Additionally, the likelihood of a severe recession in the US has diminished. Meanwhile, China’s growth has disappointed with little potential for significant policy support, and the eurozone’s largest economy, Germany, entered a recession while France recorded only marginal quarterly output growth.

What Drives USD Performance?

There are several factors influencing the performance of the US dollar, and we will analyze the most significant ones.

Federal Funds Rate

The federal funds rate  is the interest rate at which commercial banks lend extra reserves to each other on an overnight basis. The target rate is set by the Federal Reserve’s Open Market Committee and serves as the base interest rate for controlling the money supply in the United States. Regulations for U.S. commercial banks require a certain percentage of total deposits to be held in reserves to ensure the financial stability and solvency of the banks.

US Fed Funds rates influence dollar performace
How interest rates moved over the years

Furthermore, the federal funds rate plays a critical role in controlling the money supply in the US economy. When there’s a high demand for the US dollar, often due to a shortage of the currency, its value increases. An increase in the federal funds rate can boost the economy’s wealth but can also help counteract rising inflation.

Currency Demand

The US dollar is frequently used as a currency peg by countries like Ecuador, Puerto Rico, and Zimbabwe, setting fixed exchange rates. Its widespread use as a dominant currency has made it the primary global reserve currency for trading commodities. Major financial institutions and central banks hold reserve currencies for international transactions to reduce exchange rate risks.

Yet, alternative currencies like the euro, Japanese yen, British pound sterling, and smaller reserve currencies such as the Canadian dollar and Australian dollar have challenged the US dollar’s status as the primary reserve currency. These alternatives are gradually undermining the dollar’s dominance and could impact its future demand.


Inflation is the rate at which a currency’s purchasing power diminishes over time. A weaker dollar can lead to higher import prices, resulting in increased inflation. This places additional pressure on the US economy, which is already contending with rising inflation and potential constraints on borrowing.

USD is very sensible to consumer price index figures
US consumer price inflation over the years

The government often raises the federal funds target rate, leading to higher short-term interest rates. This increases the cost of credit, which, in turn, enhances the economy’s wealth as the money supply decreases. However, it can also discourage consumers and businesses from taking out loans, encouraging savings and the possibility of earning higher interest.

US Economy Performance

When the US economy performs strongly, the value of the dollar appreciates. The dollar demonstrated its resilience post-pandemic, rebounding to its former strength as interest rates rose rapidly compared to other global economies. Foreign investors find interest rate hikes attractive, as they may increase earnings when trading the dollar.

Conversely, a weaker economic performance in the US can lead to a depreciating dollar. A significantly weakened dollar can have adverse effects on global economies. As the dollar depreciates, other world currencies, such as those of the Eurozone, China, and Japan, may also lose value, as their economic growth heavily relies on exports.

While factors like trade balances, the political environment, and events like wars can influence the dollar’s fluctuation, the ones mentioned above have a more substantial impact on its performance.

USD Historical Performance

Over the years, the USD has seen periods of strength and weakness, often driven by a complex interplay of economic, geopolitical, and financial factors.

Here are some key historical figures and milestones in the USD’s performance:

Bretton Woods Agreement (1944)

The USD was established as the world’s primary reserve currency, with an initial exchange rate of $35 per ounce of gold.

Nixon Shocks (1971)

President Richard Nixon suspended the USD’s convertibility into gold, effectively ending the Bretton Woods system. This move marked a significant shift in the USD’s role as a fiat currency.

Plaza Accord (1985)

The USD reached record highs during the early 1980s, prompting a coordinated effort by major economies to devalue the USD. This accord led to a significant drop in the USD’s value.

Great Financial Crisis (2008-2009)

The USD surged in value during the global financial crisis as investors sought safety. In 2008, it reached a Euro exchange rate of 0.62 USD, a notable high point.

COVID-19 Pandemic (2019-2020)

The pandemic led to a surge in demand for USD in early 2020, reaching a 17-year high. The EUR/USD exchange rate dipped to 1.07 in March 2020.

Current Exchange Rates (2023)

As of 2023, the EUR/USD exchange rate hovers around 1.13, reflecting the USD’s relative strength against the euro. The USD/JPY exchange rate is approximately 115, indicating its value compared to the Japanese yen.

What’s Driving USD’s Latest Performance?

Factors such as the debt ceiling, the conflict in Ukraine, the pandemic, and high interest rates have heavily influenced recent dollar performance. While the pandemic’s effects persist in the American economy despite the end of the health emergency, other factors continue to exert pressure on the greenback’s trajectory.

The euro’s decline against the dollar occurred for two primary reasons: concerns about a potential European recession, exacerbated by the deepening energy crisis, and investor risk aversion, driving them towards the US dollar as a safe haven asset, thus pushing the euro/dollar exchange rate close to parity.

Many analysts believe that mounting concerns about the vulnerability of natural gas supplies to Europe, combined with positive news from the US jobs report, have intensified recession worries, particularly in Europe.

USD Forecast for 2023

The dollar’s strength should remain formidable through the year’s end, as indicated by a Reuters poll of forex strategists. These experts believe that the greenback faces risks tilted toward the upside.

Fueled by a robust economy and the ascent of US Treasury yields, which are among the highest in the developed world, the dollar has displayed resilience against most major currencies, even amid sporadic weaknesses.

This impressive performance has prompted a reevaluation of the long-standing notion of a weaker dollar in the short to medium term. Notably, an overwhelming 81% majority of analysts, comprising 43 out of 53 respondents in a September 1-6 Reuters poll, expressed a belief that the risks to their dollar outlook lean towards the upside.

Jane Foley, Head of FX Strategy at Rabobank, stated, ‘We anticipate that the dollar’s strength will endure and persist over the next three months.’

Nevertheless, the consensus among approximately 70 foreign exchange strategists suggests that the dollar may modestly weaken against most major currencies over the course of a year. This weakening may become more pronounced in the subsequent year, particularly as the first Fed interest rate cut approaches.

USD Forecast for 2024

Forecasts for 2024 exhibit a range of possibilities, particularly in relation to the EUR/USD cross rate, commonly referred to as the ‘cable.’ Most experts anticipate a departure from the current price channel, envisioning a new range with a lower boundary around 1.15 and an upper limit near 1.30. This shift may test previous high levels reached in the past.

However, there is a contrasting perspective, where some believe the euro/dollar might leave its current stability, potentially falling below the 1 USD per EUR threshold.

In the context of 2024, a bullish market trend may happen for the euro against the dollar. The EUR/USD pair will revisit 2014, 2016, and 2018 high points, according to analysts.

The majority of analysts foresee an initial sharp downtrend in the first half of the year, followed by a reversal and a return to early-year levels.

USD Forecast for 2025

In 2025, EUR/USD will not achieve new record highs, but the pair may still trade at relatively elevated levels, according to analysts.

Forecasts for 2025 suggest that the EUR/USD price will surpass the $1 mark, with an initial average of 1.15 at the beginning of the year, gradually declining to 1.05 by year-end.

Analysts anticipate a somewhat cautious start to the year for the euro-dollar, approaching parity. However, they foresee a potential upward trend, with the pair reaching 1.13 by the end of the year.

USD Forecast and Analysts’ Views

According to Goldman Sachs experts, in the event that systemic concerns escalate, causing stocks to experience further declines, the US dollar is likely to outperform other currencies, with the exception of the Japanese yen and the Swiss franc. They suggest that the dollar’s recent underperformance at the beginning of the year is unlikely to persist in the near term, unless concerns related to the banking system subside and the Federal Reserve decides to conclude its interest rate hike cycle earlier than expected.

Goldman Sachs analysts also mention that a renewed depreciation of the US dollar could occur if there is growing confidence in global growth prospects and disinflationary trends that could reduce interest rate volatility. However, they note that this scenario is currently distant.

Jane Foley, Head of FX Strategy at Rabobank, believes that dollar strength will continue over the next three months.

However, analysts anticipate that the situation will shift in the medium to long term when the Fed initiates interest rate reductions, causing the US currency to relinquish some of its relative advantage in terms of returns.

Lee Hardman, Senior Currency Analyst at MUFG, anticipates that the dollar will weaken again over the next six to nine months as the Fed starts cutting rates.

Euro Is Still Undervalued

Nikolay Markov, Senior Economist at Pictet Asset Management, points out that their valuation model based on purchasing power parity indicates that the dollar is still significantly overvalued.

He believes that the euro, despite recent appreciation, is still undervalued and should continue to appreciate towards levels of around 1.25 against the dollar. According to Markov, the “equilibrium” value of the dollar should be reached by 2027 at around 0.77 franc cents.

While the devaluation of the US dollar has been a long-term trend, it raises questions about its future trajectory. Markov explains that several economic cycle and structural factors need to be considered. In terms of the economic cycle, the United States is seen as approaching a period of economic slowdown with a potential recession next year. The Federal Reserve is expected to reach its interest rate target, likely increasing it by another 25 basis points, which would mark the end of the tightening cycle, with market expectations shifting toward the start of a rate cut in the first quarter of the following year.

EUR/USD Forecast: Will Dollar Maintain Dominance Over Euro?

The pivotal question looming over the US economy has been whether it would experience a “soft landing” or a more abrupt “hard landing.” This uncertainty emerged in light of extensive monetary and fiscal tightening measures undertaken over the past 18 months.

Nevertheless, experts remain cautious about prematurely declaring the US economy as “all clear.” The intricacies of monetary policy, known for its “long and variable” lags, continue to play a role. Additionally, the prospect of a government shutdown in November adds a layer of uncertainty. Yet, there’s no denying that the US economy is outpacing its major global counterparts.

Fed's decisions have effects on both inflation and USD
FOMC decides US interest rates which affect USD performance

The Federal Reserve’s posture has also been instrumental in dispelling concerns of an impending severe downturn. By retaining the possibility of an interest rate hike by the new year and removing two projected rate cuts from the 2024 “dot plot,” the central bank has conveyed a level of confidence in the US economy’s resilience.

ECB Paused Hikes Cycle

Shifting our focus to the Eurozone, the European Central Bank (ECB) appears to have reached the conclusion of its rate hike cycle, having raised interest rates for an unprecedented tenth consecutive meeting, bringing rates to 4%. The Governing Council’s growing confidence in the sufficiency of these tightening measures has received a boost by September’s inflation data, which revealed a decline that topped market expectations.

With signs of economic weakness already emerging in the Eurozone and a recognized time lag between interest rate hikes and their real economic consequences, the coming quarter may usher in a period of economic slowdown, if not an outright recession. Anticipated interest rate cuts by the ECB, which would exert additional downward pressure on the EUR, will capture the market’s attention.

EUR/USD forecasts
How will ECB and Fed next moves impact on the EUR/USD cross?

Should data suggest that the Eurozone economy is approaching its nadir, there may be a modestly more optimistic outlook for the EUR. Nonetheless, the EUR/USD may find it challenging to make substantial gains, as the ECB may commence rate reductions ahead of the Federal Reserve, possibly in 2019. The intricate interplay between these economic factors will undoubtedly continue to shape the future path of the EUR/USD exchange rate.

GBP/USD Forecast: Can Sterling Recover Lost Glory?

In late August, the British Pound began a significant decline, mainly compared to other GBP pairs, as the UK’s economic data consistently indicated weakness. This led to a shift in market expectations regarding the Bank of England’s interest rate hikes. Initially gradual, these adjustments accelerated.

Ahead of the Bank of England’s recent meeting, market expectations changed from anticipating three additional 25 basis point rate hikes in 2023 to just one. Surprisingly, the Bank of England decided to maintain rates at 5.25% during that meeting, reflecting a divided stance. This suggested that UK interest rates had possibly peaked, accelerating the Pound’s decline against the US Dollar and other currencies.

GBP/USD forecasts
Is GBP reviving or will USD keep on leading the game?

Over the past two years, UK inflation and interest rates surged compared to other advanced nations. Many homeowners opt for 2- or 5-year fixed-rate mortgages, and as more of these mortgages reached the end of their fixed terms, households had to allocate additional funds monthly to cover loan repayments.

Given the enduring hawkish stance of the US central bank and its strong performance, a swift GBP/USD recovery in Q4 faces significant challenges. Financial market trends typically weaken before reversing, requiring time, possibly weeks or months, for a turnaround.

In summary, the outlook for the British Pound in the next 3-6 months leans bearish. Do not rush to interpret short-term strength in the GBP/USD as a trend reversal unless strong UK data or a pattern of weaker US data will back it, along with expectations of more or earlier rate cuts by the Federal Reserve, as this could be a more plausible catalyst for a trend reversal.

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