With the Fed set to cut interest rates, the dollar is losing a bit of its shine with foreign investors

Back when the Federal Reserve first started raising interest rates, in early 2022, the value of the U.S. dollar shot up right alongside them. Dollars got more expensive because everyone wanted to have dollars so that they could invest in dollar assets and take advantage of those rising rates. Now, with the Fed set to cut rates, the dollar is already slumping — down 5% since late June.

Say you’re a foreign investor and you want to buy U.S. bonds.

“You have to buy the dollars first,” said Carol Osler, a professor of finance at Brandeis University.

When the Fed lowers interest rates, that lowers the yield on U.S. bonds and makes them less attractive to foreign investors.

And Osler pointed out, since they’re not buying as many, they don’t need as many dollars.

“The exchange rate response is supply and demand,” she said. “If fewer people are buying U.S. bonds, so fewer people are buying U. S. dollars, the value of the dollar will tend to fall.”

Osler said traders have already started to sell their dollars in anticipation of a rate cut: “People are like, ‘Well, I’m not going to wait until that happens. If I’m holding dollar assets now, they’ll lose value, so I’m going to sell them now,'” she said.

A weaker dollar does have knock-on effects for the U.S. economy. As in, people here need more of them when buying things made abroad.

Syracuse economics professor Ryan Monarch said that means imported products are going to go up a bit in price. 

“Whether we’re talking about furniture from China, or we’re talking about bananas from Colombia, or whatever, dollar movements are going to make those things more expensive in the medium run,” he said.

Monarch said price changes could show up in the next three to six months.

On the flip side, American exports should become more attractive, because buyers, say in China, can get more bang for their buck — or renminbi, rather.

“A weaker dollar does mean that for the rest of the world, American exports become a little bit cheaper,” said Eswar Prasad, a professor of economics at Cornell University. 

That includes everything from American grown soybeans to American made airplane parts. But Prasad points out the effect is likely to be somewhat subdued right now.

“Because the rest of the world is not doing that well,” he said. “Europe, the United Kingdom, China, Japan, are all doing pretty badly in terms of their economic growth compared to the U.S.”

That means even though the dollar’s weaker, other countries don’t have as much money to purchase U.S.-made goods.