Why the dollar’s strength isn’t likely to alter the Fed’s rate-hike timing

The threat that the stronger dollar will push already low inflation back into negative territory is “certainly overblown,” according to new research from the Cleveland Fed.

The results could be crucial for the timing of the first Fed rate hike since the recession. Fed Chairwoman Janet Yellen has said she wants to be confident that inflation is moving higher towards the U.S. central bank’s 2% annual inflation target before raising interest rates.

So a small impact from the stronger dollar on inflation could move the Fed to act swiftly.

The dollar DXY, -0.10%  has risen since the summer given the likelihood that the Fed will tighten monetary policy while central banks in Europe and Japan are easing.

At the same time inflation has been moving lower, mainly due to a drop in oil prices. Overall inflation is flat in the 12 months ending in February, according to government statistics released Tuesday.

How could the dollar affect inflation? In general, an increase in the dollar’s exchange rates can affect import prices for at least six months, but the overall impact is fairly small, said Owen Humpage and Timothy Stehulak of the Cleveland Fed, in a new report released Tuesday.

The researchers focused on non-petroleum imports. They found a 1% gain in the dollar’s exchange rate lowers non-petroleum import prices by 0.3% cumulatively over six months.

Market Watch

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Craig Erlam

Craig Erlam

Senior Market Analyst, UK & EMEA at OANDA
Based in London, Craig Erlam joined OANDA in 2015 as a market analyst. With many years of experience as a financial market analyst and trader, he focuses on both fundamental and technical analysis while producing macroeconomic commentary. His views have been published in the Financial Times, Reuters, The Telegraph and the International Business Times, and he also appears as a regular guest commentator on the BBC, Bloomberg TV, FOX Business and SKY News. Craig holds a full membership to the Society of Technical Analysts and is recognised as a Certified Financial Technician by the International Federation of Technical Analysts.
Craig Erlam