The US Dollar Index (DXY), an index of the value of the US Dollar (USD) measured against a basket of six world currencies, trades on a flat note near 98.00 during the early European trading hours on Monday. Financial markets are expected to trade on thin volumes as traders prepare for the New Year holiday. The US Pending Home Sales report for November is due later on Monday.
The US Federal Reserve (Fed) cut the federal funds rate by 25 basis points (bps) at its December policy meeting, bringing the target range to 3.50%-3.75%. The Fed has delivered a cumulative 75 bps of rate cuts in 2025. Markets are pricing in at least two interest rate cuts by the US central bank in 2026 amid a cooling labor market and easing inflation, which could weigh on the US Dollar against its rivals.
Financial markets are pricing in nearly an 18.3% probability that the Fed will reduce the interest rates at its next policy meeting in January, according to the CME FedWatch tool.
US President Donald Trump said last week that he wants the next Fed chair to lower interest rates if markets are doing well. His comments are likely to heighten concerns among investors and policymakers about Fed independence. This, in turn, could drag the DXY lower.
On the other hand, geopolitical risks and uncertainties could boost the safe-haven flows, supporting the US Dollar. Trump said on Sunday that he made “a lot of progress” in talks with Ukrainian President Volodymyr Zelenskiy over a possible peace deal, but that it might take a few weeks to get it done and there’s no set timeline.
US Dollar FAQs
The US Dollar (USD) is the official currency of the United States of America, and the ‘de facto’ currency of a significant number of other countries where it is found in circulation alongside local notes. It is the most heavily traded currency in the world, accounting for over 88% of all global foreign exchange turnover, or an average of $6.6 trillion in transactions per day, according to data from 2022.
Following the second world war, the USD took over from the British Pound as the world’s reserve currency. For most of its history, the US Dollar was backed by Gold, until the Bretton Woods Agreement in 1971 when the Gold Standard went away.
The most important single factor impacting on the value of the US Dollar is monetary policy, which is shaped by the Federal Reserve (Fed). The Fed has two mandates: to achieve price stability (control inflation) and foster full employment. Its primary tool to achieve these two goals is by adjusting interest rates.
When prices are rising too quickly and inflation is above the Fed’s 2% target, the Fed will raise rates, which helps the USD value. When inflation falls below 2% or the Unemployment Rate is too high, the Fed may lower interest rates, which weighs on the Greenback.
In extreme situations, the Federal Reserve can also print more Dollars and enact quantitative easing (QE). QE is the process by which the Fed substantially increases the flow of credit in a stuck financial system.
It is a non-standard policy measure used when credit has dried up because banks will not lend to each other (out of the fear of counterparty default). It is a last resort when simply lowering interest rates is unlikely to achieve the necessary result. It was the Fed’s weapon of choice to combat the credit crunch that occurred during the Great Financial Crisis in 2008. It involves the Fed printing more Dollars and using them to buy US government bonds predominantly from financial institutions. QE usually leads to a weaker US Dollar.
Quantitative tightening (QT) is the reverse process whereby the Federal Reserve stops buying bonds from financial institutions and does not reinvest the principal from the bonds it holds maturing in new purchases. It is usually positive for the US Dollar.
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Arden Mcnaught