Summary

We are in the midst of updating our review of the dollar, and specifically its potential impact on inflation, interest rates, credit spreads, earnings and equity prices.

Our research implies that a lower U.S. dollar alone doesn’t necessarily lead to higher inflation.  This doesn’t mean there won’t be inflation over the coming months.  It simply suggests that other factors often play a role in the inflation rate. 

Highlights

Ø  The chart below shows a comparison of U.S. inflation using headline consumer prices (left-hand scale, year-over-year percentage change) and the U.S. dollar’s value calculated against a basket of foreign currencies that are weighted based on the amount of trade with the U.S.  For easier analysis we inverted the U.S. dollar line, as a rising dollar tends to reduce inflation and vice versa.  Therefore, a declining dollar is reflected in a rising dollar line (in red).

Ø  As you can see, both measures can be volatile over short periods of time, so we analyzed the relationship over longer periods.

Ø  In three periods, the notion of a declining dollar leading to rising inflation (or vice versa) appeared to hold valid (periods 1, 2, and 6). However, in four other periods (3, 4, 5, and 7) the assumption that a declining dollar leads to inflation doesn’t hold true.  

Ø  In fact, in period 3 the dollar experienced one of its steepest declines (inverted line, so decline = upward sloping red line) yet the rate of inflation actually declined. Further, between 1981 and today, the U.S. dollar has declined modestly despite the fact that inflation has collapsed.

Ø  Therefore, although the dollar is one factor impacting the direction of domestic inflation, other factors – interest rates in the U.S. vs. other countries and vs. inflation, our trade balance, and government fiscal balances among them – can overwhelm the direction of inflation.

The opinions in this newsletter are for general information only and are not intended to give specific recommendations or advice.  Certain information contained herein has been compiled from independent third party sources believed to be reliable.  Hamilton Capital Management makes no representation about the accuracy, completeness or timeliness of the information contained herein or its appropriateness from any given situation.