A Weak Dollar...Ich bin oder nicht bin?

As Trump unveils his tariff policy, the burden may be shifting from the US dollar to manufacturing. What are the threats and opportunities for countries like India?

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By R. Gurumurthy

Gurumurthy, ex-central banker and a Wharton alum, managed the rupee and forex reserves, government debt and played a key role in drafting India's Financial Stability Reports.

April 3, 2025 at 5:54 PM IST

In a political economy, as the name suggests, politics comes first, with the economy to aid the extant political thought process into action — nothing more, nothing less! In the current milieu, Make America Great Again, or MAGA, is at the centre of American political economy, and every action, rhetoric and policy direction has to be subservient to that philosophy. Its basic thrust seems to be job creation and ease of living for the American citizens, thereby enhancing opportunities—Make Americans Wealthy Again or MAWA. The economic solutions for this to happen seem to have crystallised in terms of having a weaker dollar and lower inflation!

Hence, the MAGA philosophy's focus on migration, manufacturing and exports is expected to increase the consumption power for the average American, with help from “dirigiste” in terms of import tariffs and tax cuts on the one hand and a weaker dollar on the other, and, if possible, lower interest rates. This is happening at a time when labour markets are witnessing the exponential growth of a dystopian world of AI, which, as things stand now, is fundamentally negative for consumption.

To be sure, the background for what many call the “Mar-A-Lago Accord” - made to sound similar to “Plaza Accord” despite widely different approaches adopted - is long run dollar strength. President Donald Trump and Vice President JD Vance, however, see a strong dollar as an impediment to American manufacturing and exports, while also being a driver of many unnecessary and avoidable imports, just because the goods from the rest of the world are cheap—sometimes dirt cheap—thanks to the mighty dollar.

Comments from two former treasury secretaries come to mind. “The dollar is our currency, but it’s your problem,” said John Connally in 1971. Connally was candid about the purpose—which was to advance US interests. This was followed by murmurs about a strong dollar that was hurting US interests and addressed at various times with the Plaza Accord being a notable one. All those murmurs were buried when another Treasury Secretary, Robert Rubin, in 1994, declared that a strong dollar was in their national interest.

The return of rhetoric against a strong dollar should not be misunderstood. It is the dollar’s relative price and not the global positioning that is the problem. Remember Trump’s warning about BRICS’ alleged efforts to create a new currency to compete with the US dollar? Hopefully, it will be possible to decouple these two subtle aspects of the dollar’s strengths and bring down one of them while keeping the other intact.

In this context, it is important to highlight the dollar’s role beyond a dominant reserve currency. Its significance in global trade and benchmarking, particularly as the dominant invoicing and a numeraire currency, is less appreciated.

Meanwhile, the dollar has depreciated significantly this year, even as the tariffs-on-tariffs-off policies batter the markets and increase volatility. Stockpiling ahead of tariffs could be one reason, going by the sharp rise in US imports in the recent past.

Generally, in uncertain times like these, investors would flock to safe-haven assets especially the dollar-denominated ones, but the dollar’s weakness, along with the spike in US bond yields, shows no indication of that. This could be a reflection of the investor sentiment about current state of US markets. Could this be solved through a cut in rates by the Federal Reserve, assuming that it would relent? Doubtful. To reiterate, the current objective is a weaker dollar and lower US interest rates. US stocks are under pressure, with their European counterparts doing better. With Germany relenting on the fiscal rigidity, European bond yields have moved up.

There are other ideas within Trump’s circle to weaken the dollar, which add to the worries. An idea that outstanding short-term US Treasuries could be converted into very long-term ones and that holders of US assets could be charged a fee—they may sound crazy, but only till they happen. One way to look at these is that the noise is having enough impact on the dollar, but would that serve the larger American purpose that befits the MAGA philosophy, in good stead?

Now that the tariffs have been announced, amidst an on-off policy that leaves room for further negotiations, what are the nuances?
Much depends on the domestic reaction, especially the one from the MAGA community on how the current tariff policy is going to impact them. Some argue that the tariff revenues, intended to offset the expected tax relief for American citizens, may be over-estimated, and might not protect the purchasing power of the average American. It might be interesting to assess the impact of relative tariffs—no new announcements on Canada and Mexico, lower tariffs on Latin America, comparable tariffs on friendly nations such as Japan, South Korea and Taiwan, and an effective 54% tariff on China. By the way, one notable point of geopolitical consequence is the reference to Taiwan as a country.

Meanwhile, India continues to work on a bilateral trade agreement and has room to appease Trump, as he is ready to reduce tariffs on a reciprocal basis. It also gives an opportunity for rethinking its trade partnerships and expanding them, which might make sense if America decides to shrink its pie. Given the relative tariff advantage, India needs to worry less.

In terms of rate markets, let us assume that in the near term, the dollar will weaken, which is very likely, partly satisfying the twin objective of a weaker dollar and lower interest rates. There is a strong possibility that the American economy will end up in a recession. A weak dollar might offer reprieve to India amidst benign oil prices, benefiting borrowers facing repayments. However, it may also encourage increased borrowing, highlighting the importance of hedging currency risk. Since gold remains the only safe haven asset, India could explore strategies to harness its massive gold stocks.

Weaker American stocks may send dollars in search of better returns, likely benefiting emerging markets. Tweaks to the composition of official forex reserves can be thought of. At this juncture, it is difficult to predict the trajectory of US yields given the competing forces of economic recession leading to lower rates, and inflation, which could drive rates higher. Being a consumption-driven economy, higher US rates would be an issue for India and its monetary policy.

The world has repeatedly predicted the end of the mighty dollar, yet it has endured. One can trade in Renminbi, but what are the options to hedge in Renminbi? Would it be different this time, thanks to the range of policies and ideas floating around within the new US administration?