As the chart illustrates, the value of the dollar is at an elevated level, and it is rising rapidly. The data on this chart has not yet hit a cyclical peak. The last cyclical low point was in January 2021, and the line has climbed steadily ever since. From the last trough, the value of the dollar appreciated almost 7 percent by the end of last year. So far this year, it is up another 9 percent. A sustained rise of this magnitude is unusual, and the result is the value of the dollar index is the highest it has been in more than 20 years.
So what does this mean for the worldwide plastics industry?
The first thing it means is that John Connally's oft-cited proclamation from 1971 still rings just as true as it ever did. Connally was the Treasury secretary in the Nixon administration at the time the U.S. went off the Gold Standard. At a G10 meeting in Rome he told his counterparts, "The dollar is our currency, but it's your problem."
By a wide margin, the U.S. dollar is the dominant currency in world trade. This situation is less acute, though by no means insignificant, for countries within the euro region. But for the rest of the world, it means that if a country wants to engage in trade, its markets will be directly and heavily influenced by the value of the U.S. dollar. This is why the dollar is the preferred reserve currency around the world.
Such a strong preference for greenbacks is not an unmanageable problem for other countries when the global economy and global trade flows are growing steadily. The problems start to emerge when the global economy is under stress. The predominance of the U.S. dollar makes it a natural hedge against risk during times of economic uncertainty. As the risks to the global economy rise, the demand for U.S. dollars also increases.
At the present time there are two causes for global economic stress: slowing overall growth and intolerably high rates of inflation. These persistent stresses are currently underpinning the rise in the value of the U.S. dollar. And the real problem is that as the value of the dollar rises, it creates more stress on the rest of the world economy. This in turn creates even more demand for the dollar. In other words, we are now in the throes of a vicious cycle.
At some point this feedback loop will break. The data point on the graph that ultimately represents the peak in the value of the U.S. dollar will thenceforth be referred to as the inflection point, and a downward trend in the value of the dollar will follow.
The problem is that nobody knows for sure when this inflection point will be established. Neither do they know how high the peak will be.
It is possible the last point on the graph, the September data point, is the peak, and a downtrend in the value of the U.S. dollar will start with the October value. We will have to wait another two weeks before we know the final value for the month of October, but based on the data we have so far, there is a good probability the October value will be lower than the September value.
But one month does not make a trend. The modest pullback so far in October notwithstanding, it will be several months before we know for sure whether September was the month in which the value for the U.S. dollar peaked. I am certainly not going to rule this possibility out yet, but as of this writing I am far from convinced that we have seen the high point in this cycle.
The market has anticipated much of the future economic risk, and this is likely already reflected in the current market price of the dollar. Problems arising from such risks as further interest rate hikes by the U.S. Federal Reserve and higher energy prices in Europe this winter are already priced into the currency markets to a large extent. It is not yet clear whether more hedging of these risks will be needed, but it is certainly possible the markets will navigate these particular issues in an orderly manner.
The greater risks stem from the unknown problems. As I said, the global economy is under stress. Further stress from pandemics, wars and natural disasters is always a possibility, and the global economy may also be particularly vulnerable at the present moment to some kind of financial shock. Or maybe it will be something nobody has thought of yet. But any indication of additional stresses such as these will almost certainly push the value of the dollar higher than it is now.
'Numbers That Matter' by Bill Wood appears in Plastics News monthly. It takes a close look at data and trends to help plastics company managers forecast next quarter and next year.
