Sujata Rao and Saikat Chatterjee

LONDON, (Reuters) – “Our currency is your problem,” was the phrase of a former U.S. Treasury Secretary in 1971. This statement shocked other finance ministers who were horrified at the surge in the dollar. Over 50 years later, the dollar’s unrelenting strength continues to leave a trail that has caused destruction.

This week saw the U.S. currency reach two-decade heights. Its strength is tightening the financial environment as the global economy faces the possibility of slowing down.

Samy Chaar is chief economist at Lombard Odier and said that this surge could “damage the larger market environment” and expose economic and financial problems in the system.

In the future, the 8% increase in this year’s GDP may not be reversed.

With a dollar financing stress indicator, safe haven appeal is still intact for the greenback Barclays (LON) At its highest point in seven years. Barclays stated that an analysis of peak-to trough levels in the Dollar Index suggests that it could increase another 2%-3%.

These are the areas that have been affected by dollar-flexing.

IMMPORTED INFLATION

This latest surge in strength of the dollar has affected other G10 currencies such as the New Zealand dollar and the British Pound.

The Swiss franc, which is the ultimate safe-haven currency, has been traded near its March 2020 low against the greenback.

Currency weakness can be a benefit to export-reliant countries like Japan and Europe, but it may not apply when inflation is high or rising. Imported food and fuel are more costly than companies’ inputs, and this could lead to currency instability.

Inflation in the Eurozone hit 7.5% last month, and Japanese legislators are worried that the 20-year lows of the yen will cause financial damage to households. Survey results show that 50% of Japanese businesses expect increased costs to reduce earnings.

Growth concerns could stop central banks in Japan and Europe from following the Federal Reserve’s lead in tightening their policies. It is possible that the euro could fall to parity against the dollar as many believe, something not seen since 2002.

Kit Juckes from Societe Generale stated, “With economic recession threat present, who cares what hawkish is the ECB?European Central Bank?) or what is priced into a rates curve?”

TIGHTER FINANCIAL CONDITIONS

The availability of financing in the economy is reflected by a rising dollar.

Goldman Sachs (NYSE) compiles most commonly used financial conditions indicators (FCI). According to its FCI, a tightening of 100 basis points can reduce growth by 1 percentage point the next year.

Global conditions have been at their most tightest since 2009, according to the FCI. It factors in the effect of the dollar’s trade weight. The FCI tightened by an additional 104 basis point since April 1. Although equity and bond sales had more impact than the FCI, there was still a significant contribution from the Dollar’s over 5% increase in that period.

EMERGING MARKET PROBLEMS

Dollar strength has been a key factor in almost every emerging market crisis. In order to prevent currency falls, countries in the emerging markets must tighten their monetary policy as the dollar continues its rise. This would increase inflation and make it more costly to service dollar-denominated debt.

India implemented an unscheduled rate rise this week while Chile made a greater-than-expected, 125-basis point rate hike.

Fitch estimates the median foreign-currency sovereign debt in emerging market countries was one third of global GDP as of 2021. This compares to an average of 18% for 2013. There are many countries that have requested assistance from the International Monetary Fund (IMF) and World Bank. Additional dollar strength might increase those numbers.

Investors are becoming more wary. Investors are becoming more cautious.

PROMOTION GAIN and PAIN

A firmer greenback will make dollar-denominated commodities more expensive for consumers not based on dollars. This eventually leads to lower demand and prices.

It is not likely to occur this time, as issues such as war in Ukraine or China’s COVID lockdowns hinder the production and commerce in the major commodities.

The dollar strength means that commodity exporters, such as Australia, Chile and Russia, have higher revenues. But, it is also offset by the higher cost of machinery and equipment.

However, rising U.S yields and stronger dollars are threatening global growth. This is causing commodity prices to fall. JPMorgan (NYSE -) stated this week that it is reducing its exposure to Peruvian and Chilean sols in order to be ready for “challenging periods.”

U.S. INFLATION

A rising greenback might be welcomed by the Fed to calm import inflation. Societe Generale has estimated that a 10% appreciation in dollars causes U.S. consumer prices to fall by 0.5 percent over one year.

The dollar’s recent surge in value has not provided much relief, with U.S. gasoline prices reaching record highs. The Fed will raise its policy rate to 3.5% in mid-2023, according to the money markets. This is 200 basis points more than the market expects.

But, it is possible to dial down your bets if the U.S. April inflation data shows price pressures rising.