Forex Trading Library

US Trade Balance With a Weaker Dollar

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Traditionally, the trade balance has been one of the major drivers in forex. But it has been largely overshadowed lately with action by central banks. That doesn’t mean that capital flows aren’t defined by the trade balance. And trade can be a major factor for monetary policy decisions.

The trade balance could come into renewed focus now that the Fed is seen as leveling out its rate hikes. The relative strength of the dollar has a direct impact on the trade balance, but that relationship is also in reverse. Additionally, trade figures can give some insight into economic performance which isn’t immediately noticeable in the GDP figures. In fact, the trade balance can be the difference between economic growth and contraction.

Just how recessionary is the recession?

The last two GDP figures have done surprisingly well, providing data points suggesting the US is not near a recession. This is a sentiment that has been echoed by government officials, with Treasury Secretary Yellen most recently downplaying recession fears in the US.

But that outperformance in the GDP figures was driven primarily by swings in the trade balance. US trade decreased over the last several months, with imports falling more than exports. In dollar terms, this translates into a net reduction of the negative impact of the trade balance. In turn, the drop in trade – which is generally bad for the economy – translated into positive growth for GDP figures.

So, was the growth just technical?

There’s more to the GDP than that, but it’s also important to understand why the trade balance has been “improving” lately. Slowing consumer demand is one factor to explain falling imports. Slower economic growth can explain falling exports. But both can be mediated by a stronger dollar.

A stronger dollar can make imports cheaper, and exports more expensive. In effect, decreasing the trade deficit. It does make it more difficult for exporters to sell, since the relative price of the product increases. But that difficulty doesn’t necessarily get expressed immediately in aggregated export figures, which are based on the dollar price. A stronger dollar means importers spend less to buy the same amount of products, on the other hand. Which means that as the dollar got stronger, the trade deficit reduced dramatically, which contributed to a positive GDP.

Can things turn around?

That’s the thing; now that the Fed is slowing its hiking, the expectation is the dollar will weaken. This could lead to a growing trade deficit. In fact December US trade balance is expected to expand to -$68.8B compared to -$61.5B prior. That’s still relatively far away from the over $80B/month recorded at the start of last year, but it could be trending in that direction.

As the dollar weakens, the trade balance could come back into focus, particularly as traders pay attention to GDP figures to figure out if the US is in a recession or not.

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