The Fed's Dilemma

In our last Market Trends, we explained how the dollar had appreciated sharply around the world, a product of the Fed's sharp interest rate hike to curb inflation and the heightened geopolitical risks we saw last year, which still remain.

We were convinced that the dollar had appreciated too much, and this was causing a problem in those economies that need it. Basically, the United States was an exporter of inflation to the world.

Today we find ourselves with a weaker dollar, but inflation remains persistent, due to the strength of the labor market; and despite the fall in goods, copper, iron and food price inflation.

We were affected by demographic issues: people stopped actively participating in the labor market; the pandemic slowed migration to the United States; and companies - especially technology companies - over-hired.

In this context, today the Fed needs to generate unemployment in order to cool consumption. The problem is that making this adjustment has its risks, and this is where we find ourselves with recession. If the Fed tightens too much, something can be damaged in the system. The best example of this is the problems with the regional banks in the United States a few weeks ago.

Achieving this balance between growth, inflation, employment and financial stability is a rather complicated equation for the Fed, and we could end up in a more complex scenario, with interest rates near their peak. In that sense, it could be the beginning of a more negative trend for the dollar.