The U.S. dollar is demonstrating extraordinary strength against other global currencies this summer, touching highs against the euro, the Japanese yen and others, with broad effects globally and within the United States.

When markets closed Tuesday afternoon in the U.S., it cost $1.02 to buy one euro, $1.20 to buy one British pound, and less than $0.01 to buy one yen. All are at or near historic lows against the dollar.

The rising strength of the dollar, which has been appreciating against other currencies since last year but began rising particularly rapidly this summer, is the result of multiple causes: the decision by U.S. central bankers at the Federal Reserve to begin aggressively raising interest rates to fight inflation, and global investors moving assets to the perceived safety of the U.S. in the face of uncertainty created by Russia's invasion of Ukraine.

The impacts of a stronger dollar include a possible check on inflation in the U.S., downward pressure on global commodity prices and increasing strain on poor indebted countries with loans denominated in dollars.

Fed is major cause

The biggest driver of the dollar's increased strength is the Federal Reserve's new interest rate policy. After beginning the year with a target interest rate of between 0% and 0.25%, the central bank has raised rates three times, into the range of 1.50% and 1.75%, with the promise of more increases to come.

With rates very low across the developed world, including in Europe where the European Central Bank has lagged behind in raising interest rates, the Fed's aggressive tightening is making it more attractive to hold dollar deposits in interest-bearing accounts in the U.S. That drives up the value of the dollar relative to that of other global currencies.

Many international investors are shifting assets into the U.S. and away from other developed nations for reasons other than interest rates, including perceived safety and better economic growth prospects. This is happening in Europe, in particular, because of the uncertainty created by the war in Ukraine. Russia, heavily sanctioned by the West for its aggression, controls much of the natural gas that Europe uses to power its factories and heat its homes, and it is unclear whether that supply will be significantly constrained in the future with a negative effect on economic growth.

"We're a safe haven," William Reinsch, the Scholl chair in international business at the Center for Strategic and International Studies, told VOA. "We're a reliable currency. We're not going to expropriate people's bank accounts ... and with the Fed really leading the way, particularly compared to the European Central Bank rates, this is the place to go."

Effects in the U.S.

Within the U.S., the effects of a strong dollar are mixed. Americans traveling abroad will find that their money goes further than it used to - sometimes much further. A strong dollar also means that goods imported from countries whose currencies have dropped against the dollar become cheaper.

At a time when high inflation is driving up prices, those lower import costs will offer relief to U.S. consumers. However, that relief will be limited. Though the dollar has gained against many other currencies this year, those gains have been smallest against the currencies of Canada, Mexico and China, the three largest U.S. trading partners.

However, the effects aren't all positive.

"It's not good for American manufacturers or anybody who exports from here, because it makes their exports more expensive," Reinsch said. "That will add to the trade deficit, which is already enormous. So, policymakers have to pick your poison. What do you like, inflation or more trade deficits?"

Reinsch said there is typically a political backlash in the U.S. after the dollar has been strong for an extended period of time, and that eventually the Fed will come under pressure to lower rates in order to make U.S. goods more competitive on the global stage.

International impact

A strong dollar can have a negative effect on the global economy in general, and on emerging market economies in particular, Maurice Obstfeld, a nonresident senior fellow at the Peterson Institute for International Economics, told VOA.

"On the global level, a stronger dollar is associated with slower growth and international trade volumes," he said. "That's particularly harmful for open, emerging economies. It's associated with lower commodity prices, which hurts commodity exporters."

Obstfeld, who is also a professor of economics at the University of California, Berkeley and the former chief economist for the International Monetary Fund, said a strong dollar can be particularly hard on poor countries, where it is correlated with declining demand and lower gross domestic product, as well as higher debt service costs.

"Increasingly, emerging markets are able to issue government debt in the local currency, but they still do borrow in foreign currency, and their businesses - those that are international-facing - have extensive dollar denominated debt," he said. "When the dollar rises, that tends to make all those debts more costly ... and generally inflicts a blow to financial conditions in the emerging market."

Asked how long the current cycle is likely to last, Obstfeld said, "In the short run, with all this pressure on emerging economies, we're likely to see their currencies depreciate more against the dollar. That alone would tend to strengthen it. So, I think we're in this place for a little while."

However, he added, "Over the course of six months, if the U.S. moves into recession and the Fed begins to lay out a loosening course, provided other countries aren't in even worse shape than the U.S., you could see the dollar start to come down a little."

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