To an extent, central banks do not get to choose which of those paths they wish to take, as they are mandated by governments to achieve inflation at, or near, 2 per cent. None of the US, UK or EU central banks have as part of their mandates a requirement to achieve economic growth.
Moëc says that none of “this is a great situation”, but that central banks “can’t really diverge” as it could create an inflationary storm in any country that did so.
Emerging challenges
While the dollar poses challenges for developed markets, it poses a stiffer and greater challenge for emerging markets.
The traditional reason why this is the case is that emerging market countries and companies have historically had to borrow in dollars, so a stronger dollar increases the debt repayment costs.
Moëc says this is a much less material factor than has been the case in the past, as those economies are now more able to borrow in their own currencies.
But he says a stronger dollar is still extremely negative, because, “if the US government bond yield rises, then, in order to attract capital, emerging market economies have to offer a higher rate of return than that, significantly higher, to compensate an investor for the extra risk”.
Gerlach says emerging market economies remain more likely to have dollar-denominated debt, and so to suffer as a result of higher rates.
Gero Jung, chief economist at Mirabaud, says not all emerging market economies are commodity exporters, and as they use a currency likely weaker than the dollar this pushes up their costs.
He adds that many emerging market economies may be forced to raise rates to protect their currencies, and that would be expected to negatively impact growth.
American dream
But if the US is effectively exporting inflation around the globe though having a strong currency, it is importing disinflation to its own economy for the same reason.
This is because US companies that buy imported goods are paying for those in a currency that has weakened against the dollar, so for example, a US firm importing from the UK, or buying a UK asset, is effectively paying 16.5 per cent less for it than was the case at the start of the year.
Lagarias says this is part of the reason US consumer spending, and therefore the performance of the US economy, has been more robust than might have been expected, or indeed desired, by the US central bank.
Investment matters
In terms of what this means for investors, Wintle notes that a US equity portfolio, in sterling, which may have underperformed sharply this year, will actually look relatively better when the boost from the currency is considered.
