Potential for depreciation of US Dollar seems to be greater than appreciation in the short run


The US has printed unlimited amount of USD to deal with the COVID-19 crisis. To what extent would the weak USD continue? The data below indicate that USD may continue to slide in the short run.



Where is USD at? Dollar Index

US dollar index

Source: Investing.com


The value of USD has peaked on 13 March 2020, hitting 103.6. It fell to somewhere around 93, showing that USD has depreciated against the basket of major currencies by more than 10% in less than half a year.



Federal Reserve balance sheet

FED balance sheet

Source: Board of Governors of the Federal Reserve System


This is largely caused by unlimited quantitative easing by Federal Reserve, buying assets to increase supply of USD in the financial market, thereby providing much needed liquidity. The chart above shows that FED’s balance sheet has nearly doubled in less than a few month since the beginning of 2020.




Increase in money supply yet decrease in velocity of money

Money supply and velocity

Source: Board of Governors of the Federal Reserve System

Note: 1) Money Zero Maturity is calculated by the Federal Reserve Bank of St. Louis.

2) The velocity of money is the frequency at which one unit of currency is used to purchase domestically- produced goods and services within a given time period. In other words, it is the number of times one dollar is spent to buy goods and services per unit of time. If the velocity of money is increasing, then more transactions are occurring between individuals in an economy.


In the meantime, such intervention of the FED into the financial market has caused explosive increase in money supply, as measured by Money Zero Maturity (MZM), shown in the chart above.


While the money supply has increased, as intended by the FED, is the money circulating well to function as the blood of the economy?


The same chart shows that Velocity of MZM, which is the frequency of money at which one unit of currency is used to purchase domestically, has actually decreased by nearly 30% in 2020 compared to a year ago.




Money Market Fund (MMF)

Money market fund

Source: Board of Governors of the Federal Reserve System


Such seemingly paradoxical increase in money supply yet decrease in velocity of money can be partially explained by increase in Money Market Fund (MMF) as shown in the chart above. Faced with economic uncertainty, people have not actually spent much money in the real economy, which was the real purpose of quantitative easing to get people spend money to revive the moribund economy.


Rather, people saw it as an opportunity to put dry powder sideline for quick liquidity and take advantage of another potential downturn in the stock market. Money market fund is the best place to do so because it has short term duration and good liquidity. All of these charts show that money is not flowing to where it is needed.


What do all these charts tell us about the value of USD?


Unless there is a significant turn around in the direction of these charts, USD will continue to struggle in the short run, because ultimately the value of a currency is correlated with the fundamental of the economy in which it is spent.


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