The Fed will pull ahead in the 'reverse currency war' and squeeze the dollar even higher after a strong jobs report, Goldman Sachs says
- US jobs strength gives the Federal Reserve scope to keep hiking interest rates, Goldman Sachs said.
- That should cement the surging dollar's dominance and keep the Fed ahead in the "reverse currency war".
Signals of strength in the US jobs market mean the Federal Reserve has scope carry on its tightening campaign while other central banks struggle to keep up with the surging dollar, according to Goldman Sachs.
A team of strategists at the Wall Street bank said Friday's nonfarm payrolls report — which showed the US added a better-than-expected 261,000 jobs in October — could strengthen the Fed's hand in the so-called "reverse currency war".
"In the face of more resilient data, the Fed looks set to deliver a series of rate hikes that other central banks will increasingly struggle to match," they said in a research note published Friday.
The US central bank's series of aggressive interest rate hikes have spurred a surging run higher in the dollar this year. The increased yields have drawn in foreign investors, who have snapped up the greenback to make their investments.
The US Dollar Index, which gauges the US currency against six other major rivals, has jumped 15.2% year-to-date.
But the dollar's surge has sparked what economists call a reverse currency war, where central banks around the world battle to strengthen their currencies in the face of soaring import costs and higher inflation.
The October jobs report, which Goldman Sachs described as "hardly recessionary", is expected to give the Fed more scope to tighten without driving up unemployment. At its last meeting on November 3, the central bank acknowledged that it could hike interest rates higher than 4.75% if that's necessary to bring inflation under control.
Contemporaries like the Bank of England and the European Central Bank won't be able to hike interest rates that fast, because they're more exposed to the fallout from Russia's ongoing war on Ukraine, according to Goldman Sachs.
The main takeaway from the Fed meeting last week is that policymakers acknowledged that "restrictive" is a moving target, and the balance of recent data suggests that target is moving higher still, its strategists said. When rates are restrictive, they have reached a level sufficient to curb the economy.
"This matters because policymakers in other jurisdictions have not come close to matching that tone," said the bank's team, led by its head of global FX, rates and emerging markets strategy, Kamakshya Trivedi.
"As [BoE deputy governor Ben] Broadbent put it this week, 'the pandemic was a common shock to all of us, the war is not'," Trivedi's team added.
"After a fairly synchronized hiking cycle so far, this distinction seems set to play a much bigger role."
The BoE has warned it can't hike rates too aggressively because of the potential knock-on effect on the housing market. UK mortgages tend to come at a variable interest rate, meaning borrowing costs can fluctuate as the British central bank's benchmark interest rate rises and falls.
The Goldman Sachs team said the Fed doesn't have to worry about disrupting the US housing market in the same way, because most US mortgages are fixed-rate.
"A growing camp of other central banks has cited developments in the housing market and mortgage costs as a justification for doing less," the strategists wrote. "The much-reduced prevalence of variable rate mortgages makes the US less vulnerable to this particular issue."
The Fed's scope to hike interest rates at a faster pace and higher should help the dollar carry on dominating currencies like the euro, according to Goldman Sachs.
"In recent weeks, we have argued that there is a building case for policy divergence in the dollar's favor ahead. Following some pivotal policy decisions in recent weeks, we now think this has moved from a risk scenario to the most likely path," its team said.