Stocks? Down. The U.S. dollar? Same. Demand for U.S. bonds? Also sinking. This isn’t supposed to happen — not all three at once.
But Barry Eichengreen sees a historic reaction where there’s really one common theme: a collapse in faith in the United States.
“Global investors have concluded that there is a madman in the White House, and that the lunatics have gained control of the asylum,” said Eichengreen, a historian at the University of California at Berkeley who studies currencies and central banks.
“The damage is clearly beyond repair.”
Washington is trying to glue back the pieces of a humpty-dumpty month — when U.S. President Donald Trump introduced the highest tariffs in over a century, then walked some back, then, unhappy with interest rates, threatened to fire the head of the U.S. Federal Reserve, before ruling it out, even as White House staff were reportedly studying replacement options.
Recent history has shown that political interference in the central bank, and interest rates, can have a catastrophic effect on inflation.
It’s just not supposed to happen in the United States of America — the world’s largest economy; holder of the world’s most important currency, a currency that supports the safest investment on Earth: U.S. debt bonds.
In recent weeks, investors fleeing the stock market did not do what they normally do: leap into the safe embrace of the U.S. dollar and U.S. government debt.
Repairing the damage
Some analysts compared the combination of events to what you’d normally see in a developing economy. Risky assets, safe assets and the currency all struggling at the same time.
“The United States was more than just a nation. It’s a brand. It’s a universal brand — whether it’s our culture, our financial strength, our military strength,” said Ken Griffin, a Republican mega-donor and the CEO of Citadel, to the World Economy Summit in Washington on Wednesday.
“And we’re eroding that brand right now.… We put that brand at risk,” he said.
“It can take a very long time to remove the tarnish on a brand.… It can be a lifetime to repair the damage.”
Here, there are differences of opinion. Clearly, the Trump administration is trying to repair that damage.
All those above-mentioned indicators have eased up a bit the last couple of days, as the administration softens the tone on its global trade war and on the Federal Reserve.
The administration is reportedly considering cutting back some of the China tariffs, which are massive, surpassing 140 per cent on some products, triggering an eye-watering collapse in shipping over recent days.
On Wednesday, Trump told reporters that negotiations are “active” with China.
“Tariff negotiations are going very well. We’re dealing with many, many countries,” he said.
The U.S. indeed has a 245 per cent tariff on Chinese goods, but not in the way you might think. Andrew Chang explains how this figure got so high and which imports are getting hit. Then, is Trump’s approach to tariffs calculated or not?
But on the same day, his treasury secretary told reporters the U.S. and China aren’t actually talking yet. Meanwhile, some countries say it’s unclear what the U.S. actually wants.
So the tremors won’t end overnight.
“This isn’t a short-term adjustment; it’s a paradigm shift that we expect will extend well beyond the president’s four-year term,” said a research briefing this week from Oxford Economics, referring to the newer, more protectionist era.
“Indeed, history shows that even when protectionist measures such as tariffs and non-tariff barriers are removed, it can take decades to roll them back fully as niche groups that stand to gain from protectionism form powerful lobbies.”
Debating the dollar
It’s not just that stocks are down — with the S&P 500 down over eight per cent this year, even after a little rally this week.
The U.S. dollar has plunged a staggering nine cents against the Euro since Trump took office. It’s even down two cents against the Canadian dollar, against all expectations.
Shockingly, and most disturbingly, the demand for U.S. debt appeared shaky, with the 10-year U.S. Treasury bonds up half a cent, though it’s softened a bit.
There are different views on how bad this actually is.
Another expert, Steven Kamin, a fellow at the American Enterprise Institute think-tank, agrees with other diagnoses about what unleashed the unusual trading patterns.
Things got “so crazy,” he said, “that investors got scared and pulled away from the [U.S.] dollar as well.”
But he’s not certain about how far things will go.
Kamin’s not so worried about stock-market fluctuations. And as for bonds, he’s watching the broader economy to assess whether its current valuations are normal.
Then there’s a fundamental issue at the heart of the global financial system: the status of the U.S. dollar, for generations the world’s reserve currency.
The widespread use of the greenback in international transactions and in foreign central bank holdings has created an inexhaustible appetite for it.
That inexhaustible appetite allows the U.S. to spend more money than it has, run up monster debt and keep issuing bonds with confidence there will always be buyers.
Kamin, a former director of the Federal Reserve’s division of international finance, isn’t worried about that status ending.
“Clearly, the dollar dominates,” he said.
“Some people are saying this current episode rings the death knell for its particular role. That’s very unlikely.… The world can’t turn on a dime.”
The U.S. dollar is still king.
It still accounts for 57 per cent of the currencies held by foreign central banks. Its share has receded a bit over the decades, and again in recent years, but there is no evident replacement candidate for transactions and bond investments.
There’s a bit of a debate in Washington about whether the U.S. should actually welcome, at the very least, a cheaper dollar, in the belief it would help its manufacturing workers produce goods at more competitive prices.
But that’s a minority view. The prevailing consensus in Washington is that the U.S. gains more than it loses from a mighty dollar.
“We continue to have a strong-dollar policy,” Treasury Secretary Scott Bessent said Wednesday, voicing that view.
“I think the U.S. will always, in my lifetime, be the reserve currency. I’m not sure anyone else wants it.… For export economies, it’s a lot of pressure.”
U.S. Treasury Secretary Scott Bessent, speaking at an event hosted by the Institute of International Finance, says the ‘persistent overreliance’ on the U.S. for consumer demand is creating an ‘evermore unbalanced’ global economy, citing China’s export-heavy economy as an ‘unsustainable’ model.
Eichengreen may not be a fan of the Trump administration’s handling of the economy. But here he agrees with Trump’s treasury secretary: the strong dollar helps, more than hurts, the U.S.
The benefits, he said, include lower debt costs for the government, convenience value for U.S. banks and firms trading in their own currency, insurance in a crisis where it’s a rare asset that grows and the power to levy sanctions against using your banks.
And he fears American politicians are messing it all up. When asked whether the U.S. was in real danger of losing the reserve-currency status, he said: “We are.”
“When the competence and even rationality of a country’s policymakers is cast into doubt, its currency loses its safe haven and reserve currency status,” he said, noting that the dollar’s share in central bank reserves has already been slowly declining, about 0.5 per cent per year, for a quarter-century.
“We can expect that process to accelerate.”