US dollar index to stay bearish in the near term after central banks put in place dollar liquidity swap line, experts say

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The US dollar index is likely to remain bearish in the coming days after the Federal Reserve and other major central banks announced a concerted effort to enhance dollar flows into the global financial system, experts said.

“In such a scenario, the dollar index (DXY) moves lower on the hope of more US dollar-linked liquidity as well as easing fears of the latest banking sector fallout,” said Kunal Sodhani, Vice President at Shinhan Bank (Global Trading Center, FX and Rates Treasury).

On March 19, the Bank of Canada, the Bank of England, the Bank of Japan, the European Central Bank, the Federal Reserve, and the Swiss National Bank announced they would coordinate to enhance the provision of liquidity via standing US dollar liquidity swap line arrangements.

The US dollar index has fallen around 1 percent since March 17. According to Bloomberg data, the US dollar index, which was trading at 104.42 on March 17, fell to 103.38 on March 21.

The US dollar index is a market index benchmark which measures the US dollar relative to a basket of foreign currencies. There are six currencies included in the US dollar index basket.

What was the announcement? 

According to a statement, the US Federal Reserve, Bank of Canada, the Bank of England, the Bank of Japan, the European Central Bank and the Swiss National Bank plan a concerted effort to bolster dollar liquidity in the global financial system.

To improve the swap lines’ effectiveness in providing US dollar funding, the central banks currently offering US dollar operations have agreed to increase the frequency of 7-day maturity from weekly to daily.

“These daily operations will commence on Monday, March 20, 2023 and will continue at least through the end of April,” the statement by the six central banks said.

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What is a dollar swap line? 

A currency swap line is an agreement between central banks to exchange currencies in their respective denominations. The swap line allows a central bank to obtain foreign currency liquidity from the central bank that issues it.

It’s a coordinated action to enhance the provision of liquidity via the standing US dollar liquidity swap line arrangements.

“This (Announcement) is bearish for US dollar index over the short term. The impact of both the good news on the Asian market has been muted as investors and traders are yet to get a pullout from last week’s trauma,” CR Forex Advisors Managing Director Amit Pabari said.

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No impact on rupee 

The announcement has had no impact on the Indian rupee. The rupee, which was trading at around 82.5525 against the US dollar on March 17, was trading at 82.62 against the US dollar on March 21 in the afternoon.

Dealers said that the impact had been minimal because of uncertainty among traders after the banking crisis and prospects of a further rate hike by US Federal Reserve.

So far this financial year, the rupee has depreciated by 8.08 percent against the dollar.

Anil Kumar Bhansali, Head of Treasury at Finrex Treasury Advisors LLP, said that if fresh dollar flows come in because of any rate cuts by the Federal Reserve, India would outperform other markets because its economy is relatively shielded from the impact of any crisis in Western economies.