The U.S. dollar on a trade-weighted basis has increased by 7.53% over the past year because of growth and interest rate differentials between the U.S. and its major trade partners.
The dollar is set to soar in the next year amid an expansionary fiscal policy and a new tariff regime.
The combination of these factors is set to create global economic conditions that result in further inflows of capital into the United States and rising financial stress in the global economy.
Capital inflows this year reflect already-substantial changes to global finance before the advent of a vastly different American policy framework that will result in the U.S. acting as a magnet for capital.
The attractiveness of the U.S. economy is no mystery: Foreign capital invested in U.S. securities is greater than the sum of foreign capital invested in the next 12 economies combined.
The U.S. has become the largest destination for foreign direct investment, moving ahead of financial centers that have traditionally dominated the cross-border flow of investment.
Capital flows are emblematic of the fundamental economic strength of the United States, as rising interest rates, a strong dollar, innovation and the rule of law attract significant capital into American-based corporations.
Read more of RSM’s insights on the economy and the middle market.
The risks
But for emerging markets next year, capital flows and foreign direct investment into the U.S. economy represent a risk.
Further outsized appreciation of the greenback compared to its major trading partners and emerging-market currencies will result in falling commodity prices and rising prices for oil (petroleum is priced in more expensive dollars).
These dynamics will in turn cause slower economic activity and rising inflation in economies that are not prepared to defend currency pegs and those that do not have adequate capital buffers to weather capital outflows as the U.S. imposes tariffs.
For economies with pegged currencies, like China, and other emerging markets, next year is shaping up to be a very mean year.
