The rising value of the US dollar is affecting companies and economies globally—for better and worse.
What does Coca-Cola have in common with FCA Poland, a car manufacturer in the southern Polish city of Bielsko-Biala? They are just two of the companies that depend on international trade for a sizable percentage of their revenue and are now being sideswiped by the steady rise in the US dollar.
John Murphy, Coke’s chief financial officer, told analysts on the company’s third-quarter earnings call in late October that he expected a “two- to three-point currency headwind to revenue and a two- to three-point headwind to earnings for the full-year 2022.”
Other US multinationals, such as tractor maker John Deere, also reported taking a hit because of currency. The US dollar index, which measures the US currency against a basket of six other currencies, has increased 4.57% since January.
In fact, the US Census Bureau, which tracks imports and exports of goods, said the trade deficit widened to $98 billion in September. That compares with a deficit of $67 billion in January 2020, before the Covid-19 pandemic began. While exports remained static, the strong dollar made imports more attractive, growing from $203 billion in January 2020 to $240 billion in September, although some of the increase could be attributed to the rebound in the economy as consumers opened their wallets and returned to shopping malls.
Calculating the dollar’s impact on developing countries is a bit more complicated than trade figures or simple currency conversions would suggest. According to Jane Foley, head of foreign currency strategy in London for Dutch bank Rabobank, the threat of inflation is far greater in developing countries than in the major industrial nations of the G10. That’s largely because energy prices soared recently, with benchmark Brent crude oil, which traded at $49 a barrel in December 2020, now close to $84.
“When you look at emerging markets, there are a lot of headwinds,” Foley says. “There are higher energy prices, fear over the Federal Reserve hiking interest rates and a lot of dollar- and euro-denominated debt.”
At its most recent meeting on Nov. 3, the Federal Reserve’s Federal Open Market Committee announced that the central bank would begin reducing its purchase of US government debt by $15 billion a month. Traders in the fixed-income market expected the Fed to beginning raising interest rates from near zero levels next June.
The fear is that the Fed taper in purchasing bonds will be a rerun of the “taper tantrum” in 2013, when the Fed began selling debt it bought during the 2008 financial crisis, causing emerging market assets to tumble as investors headed for the higher interest rates in the US and other developed countries. The J.P. Morgan index of emerging market debt in local currencies is already down 6.1% this year.
One area where dollar-denominated energy prices have had a major impact is Eastern Europe. In Poland, which is in the European Union but maintains its own currency, inflation reached an annual rate of 6.8% in October.
In response, the National Bank of Poland raised interest rates for the second time in two months, to 1.25%, saying it was reacting to higher commodity prices—which are priced in dollars—and shortages due to supply-chain issues (see cover story on supply chains). Despite the increase in interest rates, the Polish zloty has fallen 6% this year against the dollar, meaning that energy and other commodities became more expensive for companies that export products.
Tomas Dvorak, an economist who studies Eastern Europe for the consultancy Oxford Economics, says the inflation problem was a major concern across the region, including for Hungary and the Czech Republic. Prague joined Warsaw in hiking interest rates in October to keep a lid on inflation. The question for companies in these countries is how they can survive high inflation with the cost of borrowing money rising.
“It depends on whether the central banks will stick to their guns and keep hiking the rate, or if they will be forced by circumstance to slow down or reverse course,” Dvorak says. For the moment, the higher interest rate has benefited manufacturing firms by supporting the Polish zloty and Czech koruna, because they must import intermediate goods priced in dollars before finishing them and exporting them to other countries.
“A stronger currency is good for manufacturing firms,” Dvorak says.
Another country being hit by the strong dollar is Turkey, which must rely on imported oil and other commodities to keep its industry functioning. But unlike the Eastern European countries, the Turkish central bank—under apparent pressure from President Recep Tayyip Erdogan to make economic growth a priority—cut interest rates from 18% to 16% in October, sending the Turkish lira crashing to 9.45 to the dollar, its lowest level ever.
Fadi Hakura, a consulting fellow and Turkey expert at Chatham House, a British think tank, says the government was trying to spur a consumption boom to boost the growth rate. As a result, the country’s foreign-denominated debt ballooned to a record $328 billion. “Foreign investment has been on a clear downward path for the past five years,” Hakura says. With up to 80% of industry depending on inputs from abroad for their factories, the declining lira has made production more expensive and undermined the advantage the cheaper currency would normally provide to boost exports.
Turkey wasn’t the only one getting hit by the strong dollar. The South Korean won recorded an 18-month low that prompted the central bank governor to warn that he is considering taking the rare step of intervening in the foreign exchange market to support the won. The central bank raised its policy rate in August, but the won kept depreciating against the dollar. Other emerging markets, such as Iran and South Africa, were also negatively impacted by the strengthening US currency.
Countries that export oil, however, earn dollar income. Russia, Saudi Arabia and others have thus benefited from dollar appreciation.
A study in December 2020 by the Bank for International Settlements, the world’s central bank, looked at the effect of dollar strength on emerging market economic growth. “Our results suggest that broad dollar appreciation dampens real GDP growth on average,” the study said. It added that the dollar affects emerging markets more strongly than small, advanced economies, especially countries with high dollar debt and a large foreign investor presence.
With the Fed taper program just beginning, analysts are forecasting more asset flows out of developing economies and into assets that promise higher returns, such as dollar bonds. That could make the situation far more difficult for companies facing the triple threat of higher energy costs, inflation and increased wage demands.