The dollar’s collapse may rattle markets, but history shows that past greenback devaluations haven’t always spelled trouble for equities. So, what’s the real message?
The US dollar, long regarded as a pillar of stability during times of global turmoil, is now facing significant pressure. The escalation in the trade war between the United States and China has reached a tipping point.
With proposed US tariffs on Chinese goods now totaling 145%, and China responding with counter-tariffs ranging from 84% to 125%, the issue has clearly moved beyond a simple trade spat. The emerging concern is the growing risk of a global economic contraction, with the greenback among the first assets to feel the strain.
Weak Dollar: Is It Really a Problem for the Markets?
As the dollar continues to weaken, a key question arises: can the American stock markets keep climbing? The answer isn’t straightforward. One often overlooked factor is that when European investors purchase US shares, they are inherently exposed to exchange rate risk, unless they use hedged instruments.
In other words, strong dollar-denominated performance can be undermined—or even wiped out—by currency depreciation. In some scenarios, euro-denominated returns may turn negative despite a rising stock. This naturally leads to a broader question: does potential performance matter if a sharp decline in the dollar is expected?
What the Past Teaches Us
History offers some guidance. Consider the post-Bretton Woods era from 1971 to 1978, when the dollar fell by roughly 35% from its pre-Nixon high. That period was characterized by runaway inflation, oil shocks, and political instability. Equity markets fared poorly. The 1970s are often labeled one of the "lost decades" for U.S. investors, with CAGR near zero and purchasing power sharply eroded.
A different dynamic played out from 1985 to 1988. The Plaza Accords marked a coordinated international effort to weaken an overvalued dollar. The greenback dropped nearly 40%, but the US stock market reacted positively. The devaluation was seen as a competitiveness boost and helped usher in a period of economic growth. Japan also benefited—at least initially—before entering a prolonged bubble phase.
Another steep dollar decline occurred between 2002 and 2008, following the dot-com crash and amid the Iraq War. The currency again fell close to 40%, driven by expansionary monetary policies and aggressive fiscal stimulus. In that environment, raw materials, gold, and emerging markets outperformed. US equities, on the other hand, endured another lost decade in real terms.
There Is No Direct Correlation Between the Dollar and the Market
The historical record makes one thing clear: there is no simple correlation between dollar strength or weakness and stock market returns. In some cases, devaluation has supported or coincided with growth; in others, it has reflected deep macroeconomic deterioration. Context is everything. If dollar weakness is part of a broader stimulus package, markets can benefit. If it signals structural instability, it may trigger capital flight and market volatility.
A Calculated Move by Trump?
There is also speculation that this current devaluation may be at least partially intentional. Former President Trump has repeatedly voiced support for a weak dollar to boost exports and narrow the trade deficit. From this angle, the decline in the greenback can be interpreted as a political and economic strategy aimed at enhancing U.S. competitiveness. The danger, of course, is that if the move is perceived as excessive or uncontrolled, it could damage confidence among foreign investors and trade partners.
So, Can Markets Rise?
There’s no definitive answer, but we can say this: yes, markets can rise even with a dollar in crisis, provided the environment is conducive. A devaluation that’s part of a coordinated effort to stimulate the domestic economy can support equities. But the outcome hinges on how the narrative is framed—and the credibility of both fiscal and monetary policy. History doesn’t offer guarantees, but it does provide useful frameworks for interpreting the present.
Initial market reactions have been clearly negative. That doesn’t necessarily mean they’ll remain so. Investor sentiment could evolve, especially if policymakers manage expectations effectively.
Still, there’s one key takeaway for European investors: currency risks and geopolitical exposure are real. A declining dollar could significantly reduce real returns, even in a bull market.
Original article published on Money.it Italy 2025-04-13 18:13:00. Original title: Con il dollaro in crisi i mercati possono comunque salire?
