Dollar on Track for Major Decline
The dollar appears set for its largest annual fall since 2017, with expectations of further weakness in the coming year as the Federal Reserve continues its trend of cutting interest rates.
This year, the dollar has plummeted by 9.6% against a set of major currencies. Concerns about the stability of the U.S. economy, fueled by President Trump’s trade policies, have made investors question its usual status as a safe haven.
Among major currencies, the euro has seen the most significant gain, increasing almost 14% to surpass $1.17—last seen in 2021.
George Saravelos, who leads foreign exchange research at Deutsche Bank, stated, “This year has marked one of the worst performances for the dollar since floating exchange rates began.” He pointed out that, for over fifty years, the currency’s value has been determined by market forces rather than being pegged to gold.
The dollar’s initial drop was largely due to aggressive tariffs imposed by Trump in April, which caused it to sink by as much as 15% against major currencies, although it has rebounded somewhat since then. However, continued pressure exists following the Fed’s resumption of rate cuts in September.
Analysts believe that anticipated interest rate cuts from the Federal Reserve next year will further erode the dollar’s strength, especially as other central banks, like the European Central Bank, continue to maintain or even increase borrowing costs.
Market expectations suggest that the Fed might lower rates by two to three-quarters of a point by the end of 2026. In contrast, ECB President Christine Lagarde has expressed that “all options should remain on the table,” hinting at potential adjustments to improve growth and inflation forecasts while keeping current rates unchanged.
Wall Street is predicting that the euro will climb to $1.20 and the pound to $1.36, up from its current rate of $1.33.
James Knightley, ING’s chief international economist, pointed out that the Fed’s approach contrasts with the prevailing stance of central banks worldwide, remaining quite accommodative.
The dollar’s global dominance has far-reaching implications for businesses, investors, and central banks. While this year’s economic contraction has benefited U.S. exporters, it has posed challenges for many European firms that rely on sales in the United States.
Looking ahead to 2026, analysts suggest the dollar’s trajectory will likely depend on who Trump selects as the new Fed chair. The dollar may experience even more declines if the successor is perceived as likely to yield to the administration’s push for further rate cuts.
Concerns have already surfaced among bond investors who expressed worries to the U.S. Treasury regarding Kevin Hassett, a lead candidate to step in for Powell when his term ends in May, fearing he might reduce interest rates to appease Trump.
With a different chairman at the helm, Knightley believes investors might expect a more interventionist Fed that would more readily cut rates and respond instinctively.
A Fed closely linked to the White House might rekindle worries about U.S. policy decisions that have historically undermined the dollar’s strength, especially following the uncertainty triggered by Trump’s tariffs earlier this year.
Mark Sobel, a former Treasury official, remarked on the slow yet significant effects of Trump’s policies on dollar dominance, suggesting they weigh heavily on the minds of market participants.
Despite a recent 2.5% recovery from its low in September—partly due to the unexpected resilience of the U.S. economy against predictions of a recession—the dollar’s future remains uncertain.
Proponents of the dollar argue that the ongoing surge in artificial intelligence investment will help the U.S. economy maintain its lead over Europe, potentially limiting aggressive rate cuts from the Fed.
However, analysts caution that even if U.S. stocks rise next year, it might not translate to a stronger dollar. Following the chaotic policy decisions by Trump, foreign investors have begun hedging their dollar exposure when investing in U.S. stocks.
Saravelos from Deutsche Bank noted that the dollar’s weakness is also linked to a “structural reassessment of unhedged dollar exposures by global investors, especially in Europe.” When investors utilize derivatives for hedging, it places additional downward pressure on the dollar.
