US Dollar Resilience Driven by Cyclical Factors Amid Structural Headwinds

The US dollar's resilience against major currencies is attributed to cyclical factors despite structural headwinds, according to Qatar National Bank (QNB). In its latest weekly economic commentary, QNB noted that while structural pressures such as an overvalued real exchange rate and persistent fiscal and trade deficits weigh on the dollar's long-term outlook, these trends are offset by continued strength in cyclical drivers. Interest rate differentials have historically been a key driver of currency movements, with higher US interest rates making dollar-denominated assets more attractive to investors.

QNB identified three factors that continue to support the US dollar's strength: higher interest rates, sustained foreign demand for US financial assets driven by AI and technology-driven stock market performance, and continued US economic outperformance. The bank noted that recent shifts in the Federal Reserve's policy stance have reinforced the role of interest rate differentials in supporting the US dollar.

Financial markets now expect US policy rates to remain higher for longer and assign a meaningful probability to additional rate hikes, according to QNB. As a result, US policy rates would remain well above those in other major advanced economies, with the Federal Funds target range at 3.50-3.75%, compared with the ECB's deposit facility rate at 2.25% and the Bank of Japan's policy rate at 1.00%. These wide interest rate differentials are expected to remain an important source of strength for the US dollar.