The Impact of Rising Oil Prices on the US Dollar
The Supportive Role of Higher Prices
The recent surge in commodity prices, particularly in oil barrels, poses risks for those anticipating a weaker American currency by the end of the year, as per insights from the Bank of America (BofA) shared with clients and the market.
The bank emphasizes that policy responses to inflation may have bolstered the US dollar’s strength in light of supply-driven oil shocks. Currency strategists John Shin and Alex Cohen highlight that the positive impact of oil prices on US terms of trade could potentially pose a persistent upside risk to the dollar.
Factors Influencing the Dollar’s Strength
BofA analysts attribute the recent oil shock’s impact on the dollar to supply-related conditions such as the Russian invasion of Ukraine and instability in the Middle East. They note that higher oil prices not only drive up inflation but also create a risk-off environment that favors USD strength, especially with the Federal Reserve’s tight monetary policy further amplifying this effect.
While acknowledging the temporary nature of these shocks, the strategists believe that oil will continue to be a positive force for the USD due to its altered relationship with the US economy and the benefits it brings to US terms of trade.
Outlook and Forecasts
BofA anticipates a decline in the dollar in the medium term, with a year-end forecast of 1.15 for the currency pair. They expect this trend to be driven by potential cuts in US interest rates. However, the bank warns of the risks of a dollar upswing amidst soaring oil prices, emphasizing the complex interplay between market dynamics and external factors.
