D.C. Gridlock Could Take the Dollar Down a Peg in 2019

Analysts see a potential end in 2019 to the dollar’s sustained bullishness against other currencies after the Democrats took the U.S. House from the Republicans in the midterm elections, Bloomberg News reported. The U.S. dollar has outperformed its Group-of-10 peers so far this year.

“Democrats taking control of the House effectively halts any further progress of the Republican agenda, but does not invite investors to consider meaningfully higher probability of Democratic priorities being enacted beyond 2020,” Morgan Stanley strategists including Meredith Pickett wrote in a research note.

Bank of America analysts predicted that “acrimony” in Washington, D.C. could lead to a higher risk premium for the dollar, and wrote that gridlock may limit policy action to the bare minimum of keeping the government funded and raising the debt ceiling.

Also anticipating Congressional gridlock were analysts with Credit Agricole. They wrote that the Democrats’ obtaining a majority in the House for the first time in eight years “should lessen the prospect of any meaningful new fiscal stimulus, while the Trump Administration’s protectionist stance should remain largely unchanged.”

This could have both immediate—if temporary—and longer-term effects on the dollar’s strength, according to a roundup of analysts’ views put together by Bloomberg.

Citigroup’s Paul Elmer noted that any further dollar weakening on the election results is likely to be short-lived as investor appetite to chase the move may be low.

Additionally, Elmer wrote that midterms do not historically mark a break in currency trends, policy levers for USD depreciation are weak and dollar-positive implications from the elections may be underplayed.

And, Morgan Stanley analysts pointed out that Treasuries are likely to be supported in the near term. The market, they wrote, “probably got ahead of itself” in pricing in a higher probability of Republicans holding their House majority and implementing more tax cuts.

Similarly, Danske Bank analysts are maintaining their prediction that Treasury yields will reach 3.5% “in three to six months.”

Longer term, wrote analysts with Credit Agricole, “the past boost to U.S. growth from earlier fiscal measures should fade, reinforcing our outlook for a weaker dollar over time.”

At Wells Fargo Investment Institute, Paul Christopher said in a call that a massively-reduced likelihood of “tax reform 2.0” with a divided Congress, and the possibility that the 2017 tax cuts will not be permanent, put pressure on the dollar to weaken.

However, Christopher didn’t rule out the possibility of global factors putting upward pressure on the dollar. He cited Italian budget disputes and Brexit negotiations, which could strengthen the dollar by weakening other currencies.

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