The coronavirus pandemic crippled the world’s economies, submerging countries into recurrent lockdowns that forced activity across many sectors to grind to a halt. In 2022, nations are learning to live alongside the virus, lifting restrictions and getting back to a state of normality. This has meant that economies can begin to regain momentum and recover from the crippling effects that the pandemic had upon their monetary supplies. Because economies are strengthening, inflation levels have increased, which means that for many countries, prices have risen dramatically.
One such country is the United States, which at the time of writing is experiencing extremely high inflation levels. Since the US dollar is the base currency in the foreign exchange (forex) market, a weakened or strengthened dollar can have a significant impact on the whole landscape of the market. This is because the forex market is extremely volatile and since it oversees the trade of the world’s currencies, economic factors like a rise in inflation can drive prices. If you’re considering investing in the forex market, Plus500 explains what forex trading is and what affects it, to provide you with the knowledge you need to open a position.
In this article, we will take a look at the US’ inflation levels, how they have affected the value of the dollar and how this, in turn, could affect a position in the forex market. Keep reading to find out more.
US inflation rates
At the time of writing, inflation in the US has increased to 7%, which is the highest recorded hike since June 1982. The country aims to maintain an inflationary level of 2%, since this helps to maintain stable prices and employment rates and therefore, this has caused significant disturbance to the country’s economy. Over the course of the pandemic, the US government dedicated $1.9 trillion to national relief. Though this helped individuals to ride the turbulent wave that the virus created, it crippled the economy and has been the biggest contributor to the rise in inflation.
Interest rate hikes
When inflation rates rise in the US, the country typically responds by increasing their Federal Funds Rate. This is the rate that banks lend excess reserves and capital to one another and is set and adjusted by the Federal Reserve Bank. An alteration to this rate collaterally increases interest rates, which is the amount that the consumer must pay to borrow money from the bank. Increased interest rates mean that its more expensive to acquire a loan or pay your mortgage, which in turn will prompt people to save. When individuals save their capital, they will have less money to put back into the economy, which will result in inflation levels falling.
Will this affect the dollar?
The dollar is directly impacted by the health of the US economy, which means that when the economy is weakened, traders will anticipate increased volatility in the forex market. As a result of increased inflation, the Federal Reserve announced that it plans to increase the Federal Funds Rate in March. Shortly after this announcement, the dollar’s price rose, recording a value that hadn’t been seen since July 2020.
This surge in value is spurred by the fact that increased interest rates positively impact currencies. Higher interest rates attract foreign investment and since these nations will need to convert their currency in order to make their purchase, it will boost the value of the currency.
Inflation and interest rates can have a dramatic effect upon the economic health of a country and therefore also affect the value of a currency. You can keep track of monetary policy changes and other key events that could impact the economy using an economic calendar. This will enable you to keep track of the key dates in an annual year that could drive prices in the forex market and affect your investment.