Trump has undermined the "dollar smile curve."
What threatens the dollar's world dominance?
Author: Olga Samofalova
The largest trade war in history has led to a devaluation of the dollar, despite many expecting the opposite outcome. Former U.S. Treasury Secretary Lawrence Summers believes that while Donald Trump set the right goal of boosting domestic industry, his methods were too aggressive and ended up damaging the dollar's dominant position in the global economy. So why did the dollar index fall?
In an interview with Bloomberg TV, former U.S. Treasury Secretary Lawrence Summers stated that over the past fifty years, America's broad strategy toward other countries has posed a serious threat to the dollar's status as the core currency in the global economy.
On one hand, Trump raised tariffs on goods from Mexico, Canada, and related countries and planned to impose tariffs on the EU to help balance trade flows, increase domestic production, and boost federal revenue in the U.S.
However, investors are concerned about the trade war, leading to a decline in the U.S. stock market and a sell-off of the dollar. Investors are worried about U.S. policies and are attempting to sell dollars. On Wednesday, the dollar's exchange rate against major currencies fluctuated near its lowest point in nearly three months. Moreover, this latest round of dollar depreciation has left those who expected the trade war and geopolitical tensions to strengthen the dollar greatly surprised.
Reuters pointed out that in the past, when investors sought safe havens in U.S. Treasuries or dollar deposits, the dollar usually performed well. This performance in the foreign exchange market is known as the "dollar smile curve." Its core idea is that the dollar often rises during periods of high U.S. inflation and interest rate hikes, as well as during major geopolitical upheavals.
However, this time things are different. Investors are concerned about the escalation of trade tensions impacting the global economy. The expectation of slower world economic growth has led to a drop in oil prices.
"The latest U.S. economic data presents a complicated situation: the labor market is cooling, industrial growth is slowing, but the service sector is expanding. This is not conducive to a stronger dollar," said Alexander Potavin, analyst at Finam Group.
"A tariff war inevitably leads to a slowdown or stagnation in U.S. economic growth, while also bringing more complexity to the labor market. All of these factors may prompt the U.S. Federal Reserve to restart an easing cycle and begin implementing quantitative easing policies in the second half of 2025," said Alexei Grishenko, professor at the Higher Management School of the Russian Presidential Academy of National Economy and Public Administration. This also means that the dollar as a world currency will depreciate.
Currently, the EU is also driving the dollar lower. "The dynamics of the dollar index not only depend on the U.S. economy but are largely related to the situation in Europe. After the Christian Democratic Union/Christian Social Union won the election, the euro saw strong growth. The party plans to increase government spending by 500 billion euros, which not only has the potential to alleviate global trade tensions but also boosts Germany's industrial sector. The rise in yields on euro bonds has reduced the attractiveness of the dollar," Potavin noted.
According to him, typically, when the U.S. economy is in a deep recession or strong growth phase, the dollar exchange rate rises. However, during such a transitional period of slowed growth like now, the dollar faces greater challenges. Potavin believes that cutting government spending and the trade war may narrow the advantage of U.S. economic growth relative to other countries and further weaken the dollar.
Former U.S. Treasury Secretary Summers believes that Trump was correct in setting the goal of enhancing national trade competitiveness, but the methods used to achieve these goals are concerning.
When the U.S. becomes embroiled in trade conflicts with many trading partners and faces countermeasures, Europe and related countries may draw closer together. Previous trade wars have prompted relevant countries to strengthen ties with BRICS nations, increasing the proportion of transactions settled in their own currencies and related country currencies. This closeness almost facilitated the birth of a unified BRICS currency. The harder the U.S. approaches, the more motivated related countries will be to not abandon this idea and put it into practice. Now, the EU may also contribute to the de-dollarization of the global economy.
Moreover, Washington has criticized and pressured traditional buyers of U.S. Treasury bonds, weakening their willingness to lend money to the U.S. Although the U.S. government still needs loans very much, as the U.S. has long been accustomed to relying on its own finances to maintain operations.
Therefore, some believe that the most destructive trade war in a century may cause more damage to the U.S. economy than its benefits. If excessive tariffs are imposed beyond limits, both the U.S. and the dollar will become losers.
However, Natalia Miltchakova, chief analyst at Freedom Finance Global, believes that for now, critics of Trump may be exaggerating. "Summers clearly exaggerated the threat to the dollar. In the past month, the U.S. Dollar Index (DXY) has fallen by 3%, but even so, the index has not broken below the psychologically significant 100-point mark. The relatively strong U.S. economy provides support for the dollar, with the U.S. growing by 2.8% in 2024. While slightly lower than the 2.9% GDP growth rate in 2023, it is higher than the growth rates of the Eurozone (0.8%), the UK (0.9%), and Japan (0.1%). That is, in the G7, the U.S. remains a very prominent leader in terms of economic growth," Miltchakova said.
In addition, the Federal Reserve's suspension of rate cuts has also provided support for the dollar, strengthening its position.
As for the tough tariffs that Donald Trump imposed on key trading partners, these tariffs triggered counter-tariffs, particularly from China, and this situation may ease.
"Although, formally speaking, Trump seems to be in conflict with the entire world, this time, the U.S. president appears prepared to reduce tariffs if other countries meet his conditions. This was not the case during the trade war between relevant countries and the U.S. in 2019, when both sides were unwilling to make concessions to each other for quite a long time," Miltchakova believes.
She feels that Trump has not gone too far in import tariffs yet, and his actions seem more like those of a rational politician who wants to support domestic manufacturers and actively invites businesses worldwide to relocate production to the U.S. to avoid paying tariffs.
"If Trump acted like an elephant charging recklessly, imposing 100% tariffs on all goods from various countries without restraint or responsibility, it would harm the U.S. economy in the form of increased inflation, correspondingly harming the dollar.
"His remarks about imposing 100% tariffs on BRICS countries are clearly irresponsible, but there have been no further actions so far, which may just be a negotiation tactic," Miltchakova analyzed.
Regarding the impact on the largest creditor of the U.S., Trump targeted the second-largest creditor—the relevant country. However, the U.S. still has the top creditor, Japan, and the third-largest creditor, the UK. "Interestingly, Trump never mentioned imposing tariffs on Japanese goods; instead, he even proposed that Japan invest in the construction of Alaska's natural gas pipeline. Moreover, he claimed that there is no trade deficit between the U.S. and the UK, meaning that imposing tariffs on the UK is not urgent," Miltchakova noted.
For U.S. Treasury bonds, if the relevant country sells off all its holdings of U.S. Treasury bonds, it will be crucial for the dollar because other major creditors of the U.S.—the UK and Japan—may follow suit.
However, although the relevant country is reducing its investment in U.S. Treasury bonds, it has not completely sold off its holdings. As of February 2025, the investment scale of the relevant country was $75.9 billion, second only to Japan, which holds slightly over $1 trillion in U.S. Treasury bonds.
The trade war with the U.S. has brought the country closer to developing BRICS nations. "BRICS nations are actively promoting the de-dollarization of their economies and foreign trade, especially Russia, but in the short term, this does not pose a threat to the dollar. However, if over time, a certain anti-dollar alliance forms on the basis of BRICS nations and a considerable number of non-Western countries join, resulting in a significant decrease in the proportion of the dollar in international settlements, the U.S. will have good reason to reflect on its wrong decisions. By then, the U.S. will have to think about how to get out of this situation—implementing new sanctions and tariffs, or using the opponents' methods, such as creating a North American unified currency 'Amero', digital dollars, etc. But it is likely that by the time this becomes a reality, Trump will no longer be president," the interviewee concluded.
Original source: https://www.toutiao.com/article/7496461667623830028/
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