Dollar Under Siege: Fiscal Gridlock and Foreign Divestment Weigh on Greenback

The US Dollar Index (DXY) has come under significant pressure, dropping to four-month lows as a confluence of domestic political dysfunction and foreign capital flight erodes confidence in the currency.

Government Shutdown Risks

Capitol Hill is gridlocked over a $1.2 trillion spending bill, with the threat of a partial government shutdown rising rapidly. The core dispute centers on funding for the Department of Homeland Security (DHS), following lethal incidents involving immigration enforcement officers.

• Democratic Resistance: Key Senators, including Majority Leader Chuck Schumer, have vowed to block funding for ICE following the deaths of US citizens during enforcement operations.
• Market Impact: The political uncertainty is acting as a direct drag on the Dollar, countering the usually bullish support provided by a hawkish Federal Reserve.

Structural Shift: Europe Dumps US Debt

Beyond the short-term political noise, a more concerning long-term trend is emerging. ABP, Europes largest pension fund ($538B assets), has slashed its exposure to US Treasuries from €29 billion to €19 billion.

This divestment is not isolated. Nordic funds, including Denmark's AkademikerPension and Swedens Alecta, are liquidating US debt positions. The catalysts range from concerns over US fiscal discipline to geopolitical frictions regarding Greenland and potential Trump-era tariffs.

The Fed Paradox

Paradoxically, the Dollar is weakening even as expectations for Federal Reserve rate cuts recede. Markets now price in a high probability (97%) that the FOMC will hold rates steady this week, with some economists, such as those at Morgan Stanley and JP Morgan, suggesting no cuts may occur until late 2024 or even 2025 due to sticky structural inflation. Normally, a “higher-for-longer” rate environment would boost the USD, but the Fiscal and credit risk premiums are currently dominating the narrative.