Unless you travel abroad, you might not immediately notice the ups and downs of the U.S. dollar relative to other currencies. However, when the dollar embarks on a sustained trend in one direction or another, it can impact conditions here at home.
This is a relevant point right now because the dollar has been on something of a prolonged losing streak, and it could cost consumers.
The dollar's slide since early 2017
According to the Federal Reserve's St. Louis branchf, compared to an index of currencies from major U.S. trading partners, the dollar fell by 6.69 percent last year, and has continued the slide so far this year for a total decline of more than 8 percent through mid-February.
Comparison to an index of trading partners is significant because it captures the purchasing power of the dollar relative to countries with whom America does the most business. An 8 percent purchasing power loss means goods from those countries may quickly become more expensive.
It's easy to overlook just how much of what you buy everyday comes from other countries. Besides goods you purchase directly from foreign companies, many components of American products are imported. Natural resources and agricultural products frequently come from foreign sources as well.
So, even if you are not planning a trip overseas or doing business directly with a foreign company, sustained weakness in the dollar adds up to inflationary pressure. From around mid-2011 through the end of 2016, the U.S. benefited from a sustained rise in the dollar that helped keep inflation and interest rates low. With its decline since the beginning of 2017, the dollar may now be seeing the flip side of that trend.
This could not only mean that what you buy may cost more, but also higher interest rates could make it more expensive to borrow in order to buy things.
What a weak dollar means for consumers and investors
Macro-economic trends can seem abstract, but the following are some concrete things you can do to prepare for the inflationary effects of a weak dollar:
- Budget for higher expenses. A falling dollar is inflationary. It makes imports cost more, and since commodities like oil are generally traded in dollars, it can make them more expensive as well.
- Favor stocks in domestic producers with competition from foreign imports. If you want to invest in beneficiaries of a weaker dollar, consider stocks of domestic producers that compete with foreign imports. With the price of imports inflated by the weak dollar, domestic companies should have a competitive advantage. Just watch out for domestic companies that rely heavily on foreign supply chains, as those might face rising costs.
- Lock up any mortgage business now. Higher inflation tends to mean higher interest rates. If you've been thinking about buying a home or refinancing a mortgage, you may regret putting it off. Also, favor a fixed-rate mortgage over an adjustable-rate one that could leave you vulnerable to rising interest rates.
- Shop for higher bank rates. With higher inflation, you need to earn more on your savings accounts and other deposits to keep up. That means this is a crucial time to search for higher bank rates.
- Use a higher inflation assumption in retirement planning. Projecting how much money you will need in retirement depends on how much things may cost in the future. Low inflation in recent years has encouraged financial planners to use fairly low inflation assumptions in their retirement calculations. With a weak dollar added to other inflationary pressures, this might be a good time to bump up your inflation assumption.
By no means should the dollar be considered critically weak at this point, but its decline is a trend to watch. Stability in the dollar allows for well-informed financial decisions; rapid change, such as the dollar has seen for over a year now, can be like changing the rules of the game every day.