As the third quarter of 2023 draws to a close, the US dollar has exhibited a strong performance, appreciating against all G10 currencies except for the Norwegian krone (NOK). Despite previous forecasts suggesting a decline by early 2024, the strength of the dollar is expected to continue in the near term.
The Federal Open Market Committee's (FOMC) recent dot plot projections indicate that the Federal Reserve is not yet prepared to signal an end to its tightening measures. Instead, it appears to be taking a more aggressive stance, maintaining higher rates for an extended period. The median rate forecast for 2024 now stands at 5.1%, reflecting this approach.
This situation closely echoes that of June when the Fed presented unexpectedly hawkish dot plots, hinting at a significant upside risk for the dollar. The market was then compelled to align with the FOMC's projections unless economic data suggested a slowdown. However, the current gap between these projections and market pricing is narrower than it was in June.
Markets currently anticipate an end-2024 Fed rate of 4.67% (effective rate), marking a 65-basis point reduction from current levels. If the projected rate hike for 2023 does not materialize, the median 2024 rate projection would drop to 4.85%, leaving approximately 20 basis points for potential repricing if US economic data remains strong.
In contrast, back in June there was a larger gap between market expectations and dot plot projections. Investors anticipated rates to drop to around 4.0% by end-2024, compared with the median dot plot projection of 4.65%.
Despite this narrowing gap, there are still near-term upside risks for the dollar due to possible delays in evidence of a slowdown in US economic activity. However, once such evidence emerges, it could trigger a significant dovish repricing in US interest rates and a sharp decline in the dollar in 2024.
The upcoming week is expected to be relatively quiet in terms of US economic data releases. The market's attention will primarily be on speeches from Federal Reserve officials, including Neel Kashkari and Fed Chair Jerome Powell. Although these speeches typically don't have as significant an impact as economic data, they can sway market sentiment, especially during a quiet post-FOMC week and with quarter-end flows in mind.
The US Dollar Index (DXY) is projected to exceed the 106.00 mark in the short term, further indicating a continuation of the dollar's strength.
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