The author is the author of Two Hundred Years of Muddling Through: The Surprising Story of the British Economy
One thing banks and asset managers have in common among their 2025 outlooks is the near-unanimous view that the dollar will strengthen further over the next 12 months. Like much else on the incoming Trump administration’s agenda, the discussion around the value of the dollar is sometimes contradictory.
Donald Trump himself and many of his key trade policy advisers have long argued that a strong dollar makes U.S. exports more expensive, encourages imports and costs U.S. manufacturing jobs. However, other appointees to key positions, such as Treasury Secretary nominee Scott Bessant, have publicly taken a more traditional stance and supported a strong dollar.
Whatever the new administration hopes, the market seems fairly certain that the result will be a stronger dollar rather than a weaker one. The dollar has gained about 8% since late September, when investors began to price in rising odds of a Trump victory in November. A stronger dollar has been a key component of the Trump trade that roiled Wall Street last year. Broadly speaking, Trump trade is an assumption that the new president will implement all aspects of the market-sanctioned agenda while being restrained by the broader party from doing anything they are not so keen on.
Tax cuts and deregulation would boost profits and stock market returns, while the resulting rise in deficits would be bad for U.S. Treasuries, but not catastrophic. The market expects U.S. government bond yields to rise relative to the no-Trump counterfactual, but implicitly assumes this rise will not be enough to disrupt stocks. Still, according to Trump's trade logic, widening interest rate differentials with other advanced economies will be enough to push the dollar higher. The threat that rising tariffs will cause fewer dollars to leave the United States has added luster to the greenback since November.
Therefore, the prevailing view is that the dollar will remain strong even if the new president occasionally complains about it loudly on social media. However, there are at least three reasons to worry that this consensus is complacent.
Tariffs come first. Economic theory suggests that new tariffs can indeed lead to a stronger currency in the short term. The currencies of trading partners subject to new restrictions typically depreciate to offset, at least in part, the value of the tariffs. This is roughly the case for China's yuan in 2018-19. But in the long term, tariffs are associated with reduced imports and exports and overall economic weakness. This weakness eventually leads to lower interest rates, which in turn causes the currency to depreciate. Tariffs may boost the dollar in the short term but weaken it in the medium to long term.
Second, the point worth taking seriously is that when Trump says he wants the dollar to weaken, he actually means it. The threat of higher tariffs on major U.S. trading partners may well prove to be just a gambit to try to bring those trading partners into some form of multilateral agreement to lower the value of the dollar. There is no doubt that the author The art of trading Not happy to hold a summit at Mar-a-Lago to host negotiations. Of course, the mechanics of such a deal would be tricky. The Plaza Accord of 1985 is sometimes seen as a model, in which the finance ministers of the United States, Britain, West Germany, France and Japan met to discuss international exchange rates. But today's world economy is very different. Forty years ago, these five players accounted for about 45% of global GDP in purchasing power parity terms, compared with about 25% today.
Another major threat to the value of the dollar can be found outside the realm of traditional economic policy. 2017 work by economists Barry Eichengreen, Arnaud Mehl, and Livia Chitu examined the geopolitical foundations of international monetary values. Generally speaking, countries hold a larger proportion of foreign exchange reserves to provide security for the country's currency representation. According to this argument, the United States providing security guarantees to its allies helps support the value of the dollar and keeps U.S. borrowing costs lower than they otherwise would be. If these security guarantees begin to unwind, the U.S. dollar's share of international reserves may begin to decline, creating further headwinds.
The dollar has risen strongly since September, but many of the arguments underpinning those gains may prove to be wishful thinking.