Stagflation, or “persistent high inflation combined with high unemployment and stagnant demand,” sums up our current economic situation.
It is no surprise that markets around the world are fighting for economic survival as stagflation is accelerating in both developed and underdeveloped nations.
Unfortunately, this has had a direct impact on the Forex market, most especially regarding ongoing volatility. No clear direction of an economy translates to less activity and unclear direction. As a result, Forex traders have experienced chopping Forex market trading conditions during most of 2020/21.
Supply and demand are the foundation of any economy. Continuous demand with a supply shortage leads to high inflation as consumers compete for the product. The current lack of supply of raw materials and commodities tops the list. These material shortages wreak havoc with manufacturers and suppliers.
In addition, the lack of raw materials and products creates less demand for labor, thus fueling unemployment and shortages. However, governments are doing what they can to assist. For example, throughout the pandemic, banks have kept interest rates low. In turn, low interest rates mean the acquisition of money is more accessible.
A Double-Edged Sword Caused by Stagflation
Unfortunately, low interest rates and an easy money supply are a double-edged sword. On the one edge, access to financing is required to help eliminate these shortages. But, then, making financing more accessible results in excess funding and deficiencies. In turn, this leads to inflationary conditions, which leads to rising prices.
Conversely, on the other edge, one of the most effective cures for inflation is tightening the money supply with increased interest rates. But, unfortunately, a direct result of tightening is a less robust economy and an increase in unemployment.
These pros and cons have created a significant headache for the Federal Reserve and its analysts as they juggle their decisions. It’s a perfect financial storm scenario and a “Catch 22” situation for world governments.
Will the US Dollar Emerge as the Winner?
Only time will provide the answer, but the ForexSignal Trading Team will be monitoring this closely.
The current economy may prompt the Fed to raise interest rates to help curb the recent inflation, a luxury neither the European Central Bank nor the Bank of Japan can afford, given their fragile economies.
As a result, rising interest rates should lead to a stronger Dollar.