Question

Since January 2017 the dollar has been losing value (depreciating) against most major currencies in particular the Euro. The depreciating dollar is surprising given the strong U.S. economy. In addition, the recently passed tax cut insures the U.S. will be financing an even larger annual deficit. This will put even more pressure on interest rates to attract buyers for U.S. government bonds. What are your thoughts on why the dollar is declining?

Answer 1

Dollar is declining because of inflation.

Inflation reduces the purchasing power of dollar; therefore, it becomes less attractive for holding and declining its value.

There are two reasons as below:

1) Since there annual deficit, the government of the country should meet such deficit by increasing the interest rate. Once the interest rate increases, products and services become costlier; this is inflation, when same quality and quantity are produced at higher price and it happens because interest is a cost component.

2) Tax cut makes a favorable impact on spending; people used to spend more because they have no burden of paying tax. Factors of production are land, labor, capital, and organization. These can’t be increased in the short-run for the productions. Therefore, the excess demand can’t be met through additional supply, which creates pressure on existing supply and increases the price.