US Dollar Set for 9% Plunge as Federal Reserve Plans Aggressive Rate Cuts

Morgan Stanley strategists forecast a significant 9% decline in the US Dollar Index over the next 12 months, projecting a drop to 91, a level last seen during the pandemic. This bearish outlook is driven by expectations of significant interest rate cuts by the Federal Reserve, which are anticipated to weaken the dollar against safe-haven currencies such as the euro, Japanese yen, and Swiss franc.

The investment bank's analysis suggests these currencies will gain strength as the Fed implements a 175 basis point reduction in rates, reshaping global currency markets.

Fed's Rate Cuts Fuel Dollar Weakness

The Federal Reserve initiated its rate-cutting cycle in September 2024 with a 50 basis point reduction, lowering the federal funds rate to a range of 4.75% to 5.0%. This marked the Fed's first easing since 2020, ending a rigorous inflation-fighting campaign.

Market expectations point to an additional 175 basis points in cuts by June 2025, bringing the policy rate's upper bound to 3.5%. These cuts are poised to stimulate economic growth, with models suggesting a 1% boost to GDP and a 0.5% rise in inflation in the coming quarters.

The stock market has already reacted positively, with the S&P 500 hitting its 39th record high of 2024 following the initial cut.

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Safe-Haven Currencies Gain Traction

As the dollar weakens, investors are increasingly turning to safe-haven currencies. The Japanese yen benefits from Japan's low-interest-rate environment and economic resilience, while the Swiss franc is bolstered by Switzerland's political neutrality and low debt levels, approximately 38% of GDP.

The euro is emerging as a contender, though its safe-haven status has weakened since 2022 due to synchronized rate hikes by the European Central Bank and the Fed.

Recent analysis indicates the US dollar remains the strongest safe haven during global risk aversion, followed closely by the yen, with the Swiss franc and euro trailing.

Currency Forecasts and Treasury Yield Outlook

Morgan Stanley's projections include specific exchange rate movements. The euro is expected to rise to $1.25 against the dollar, the British pound to $1.45 by mid-2026, and the Japanese yen to strengthen from 143 to 130 per dollar.

The US Dollar Index, which has already fallen over 10% since its January 2025 peak of nearly 110, is expected to continue its downward trend.

In the Treasury market, Morgan Stanley predicts the 10-year yield will peak at 4% by year-end before declining as the Fed's rate cuts take effect, potentially steepening yield curves and signaling broader market shifts.

Did You Know?
The US Dollar Index measures the dollar's value against a basket of six major currencies, including the euro (57.6% weight), Japanese yen (13.6%), and British pound (11.9%).

Global Context and Economic Implications

Recent data highlights a global trend of monetary easing, with the Bank of Canada cutting rates by 175 basis points in six months, outpacing other major central banks. This aggressive stance has positioned Canada as a leader in rate reductions, influencing currency dynamics.

The weakening dollar could enhance US export competitiveness but may also increase import costs, potentially fueling inflation. Investors are closely monitoring these developments, as the interplay between rate cuts and currency shifts could redefine global financial strategies in 2025.