How floods, wildfire and the Delta virus surge have investors seeking US dollar safe haven

The US dollar’s recent outperformance against the euro, renminbi and other currencies has less to do with its own allure and more to do with the combination of factors that has spooked investors
Continuing US-China tensions have not helped, becoming one more reason for investors to be cautious

Neal Kimberley

Published: 1:30am, 28 Jul 2021

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The US dollar has been doing well on the foreign exchanges recently but that doesn’t mean investors have fallen in love with the greenback. It feels more like a marriage of convenience. The currency market looks to have concluded that, for now, the US dollar is the cleanest shirt in a dirty laundry basket.

That narrative might give a crumb of comfort to those who see the greenback weakening in due course, but US dollar strength may persist for a while.

Markets have become skittish in the face of an unappealing combination of the global spread of the Delta variant of Covid-19, a succession of extreme weather events, and continuing signs of substantive policy differences between China and the United States.

The more transmissible Delta variant continues to spread across the world. In some countries, where vaccination programmes are advanced, the link between the virus and hospitalisations and death seems to have been weakened but not severed. Where vaccination programmes are less advanced, the Delta variant is wreaking havoc.

In Asia, for example, Indonesia has become the new epicentre for Covid-19 with the Delta variant spreading rapidly across the country. Higher numbers of cases are also being reported in Thailand.

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Indonesian volunteers deliver free food to self-isolating Covid-19 patients as cases spike

In the currency space, the worst may now be priced in, but the Indonesian rupiah and Thai baht have certainly not had the easiest of times versus the US dollar in recent weeks.

With Canberra still involved in a substantive trade spat with Beijing, with Australia again locking down in an attempt to contain Covid-19, and with markets wondering if the global economy has already passed “peak recovery” after the initial phase of the pandemic, it’s not difficult to see why investors might think that Australia’s economic prospects, so reliant on raw material exports, look a little bleak.

With that in mind, it becomes easier to account for the Australian dollar’s recent underperformance on the foreign exchanges.

Meanwhile, in the euro zone, the European Central Bank is in no rush to move away from its current ultra-accommodative monetary policy stance, with coronavirus cases again rising rapidly in parts of the currency bloc, and in the aftermath of the recent flooding and loss of life seen in parts of Belgium, Germany, Luxembourg and the Netherlands.

Why forecasters failed to predict China’s latest devastating floods

Again, it’s not too hard to see why the euro has drifted lower versus the US dollar in recent weeks.

Extreme weather events are not just being seen in Europe. Skittish markets may have been further unnerved by the loss of life and economic dislocation caused by the torrential rain and deadly flooding in China’s Henan province and also by wildfires in the US state of Oregon that are so large they are visible from space.

This Nasa Earth Observatory satellite image on July 18 shows smoke from the Bootleg fire in Oregon. The giant blaze has triggered over 2,100 evacuations and destroyed 67 homes in nearly two weeks of explosive growth. Photo: Handout / Nasa Earth Observatory / AFP

Admittedly, as John Kerry, the US special representative for climate, said in a speech in London last week: “President Biden and President Xi have both stated unequivocally that each will cooperate on climate despite other consequential differences.”

That’s all well and good but perhaps markets are also becoming more nervous about those “other consequential differences”.

These must include, among other things, Washington recent accusations that China has been involved in state-backed cyber hacking and Beijing’s own strong objections to a recent US advisory, warning American firms of what the United States asserts are “clear operational, financial, legal and reputational risks” now attached to operating in Hong Kong.

Then there are the issues around the US’ freedom of navigation operations in the South China Sea, China’s treatment of its Uygur Muslims and long-standing differences over Taiwan.

In isolation, markets might ordinarily take such “great power” differences in their stride but against the backdrop of a global pandemic and a succession of extreme weather events, these China-US “consequential differences” just add to a general feeling that, for now at least, when it comes to investing, discretion is the better part of valour.

Indeed, even the Chinese renminbi has given back some of its gains versus the US dollar in the past few weeks as investors have generally headed back into greenbacks.

As those US dollars then have to be parked somewhere, it becomes more explicable why, although US inflation pressures have risen, there has been a recent rise in US Treasury prices and a consequent fall in Treasury yields.

This situation may persist but let’s not confuse current US dollar strength with investor enthusiasm.

Neal Kimberley is a commentator on macroeconomics and financial markets