The United States dollar (USD) has played a dominant role in the global economy for more than a century. As Kavan Choksi Business Consultant points out, today USD is held by foreign central banks and major financial institutions as a reserve currency. They use USD for international transactions, to pay for international debt or even to support their domestic exchange rates. A strong dollar has a significant impact on international currencies and commodities.
Kavan Choksi Business Consultant sheds light on the impact of a strong dollar on international currencies and commodities
A strong dollar typically starts to depress global trade growth, as it is considered to be the “invoicing” currency of the world and holds the most purchasing power. This basically means that as the dollar appreciates; various other currencies can depreciate, ultimately making the world poorer and less able to engage in trade. A strong dollar can also make nations with dollar-denominated debt less creditworthy, by making it more difficult for them to purchase USD to manage their debts. A strong dollar can be particularly less favorable for China, and cause an obstructive knock-on effect for emerging market countries owing to their linked supply chains and commodities demand. A strong dollar has also greater odds of causing inflationary upward pressures for emerging markets as they typically purchase their raw materials in USD.
The simultaneous rise in commodity prices additionally causes complications for emerging markets. These markets experienced lagged effects of increased food prices, higher oil prices, as well as greater import prices from currency depreciations. With the increase in the demand for products, an increase is also seen in the demand for the materials used to produce them, which results in higher commodity prices. Commodities tend to be heavily related to demand and supply dynamics and, in comparison to other inflation protection assets like TIPS (Treasury Inflation Protected Securities), and can provide higher returns.
As Kavan Choksi Business Consultant mentions, even though rising commodities prices do hurt emerging markets, there also are others who stand to benefit. Commodities are an important source of exports and revenues for many emerging economies. In fact, more than half of the world’s poor reside in commodity exporting countries. The reliance on commodities is especially high for oil exporters like Russia, Mexico and Brazil, as well as on metal and agricultural exporters like South Africa and Chile.
Commodity prices usually follow recurring patterns, with cycles typically lasting about six years from one peak to another. For commodities that are heavily tied to industries like copper and aluminum, they tend to stay in the same phase of the cycle about 80% of the time. The World Bank Group’s Flagship Report from January 2022 highlighted this synchronization through a common statistical factor, which typically explains 15-25% of price fluctuations for energy and metals but only 2-10% for agricultural commodities and fertilizers. The changing value of a currency against the dollar typically has a substantial impact. Whether a country is the importer or the exporter shall dictate either a beneficial or adverse outcome from currency movements.
