The risk of USD depreciation in the era of rate cuts | 2025 exchange rate fluctuations and asset allocation strategies

The US Dollar Enters a Downward Cycle, Market Dynamics Are Being Rewritten

By the end of 2024, the Federal Reserve will initiate the long-anticipated interest rate cut cycle. According to the latest policy guidance, the US dollar interest rate is expected to be targeted around 3% before 2026. What does this shift mean? Simply put—an era of cheap money has arrived, and capital is seeking new destinations.

As the world’s primary settlement currency, fluctuations in the US dollar interest rate influence global markets. When the dollar is no longer “worth money,” investors face both opportunities and challenges. Especially as the dollar’s depreciation effects gradually emerge, impacting everything from commodities to asset allocation.

The Essence of Exchange Rates: A “Competition” Between Currencies

The US dollar exchange rate is quite simple—it’s the exchange ratio between the US dollar and other currencies. For example, EUR/USD=1.04 means $1.04 can exchange for 1 euro. When this ratio rises, it indicates euro appreciation and dollar depreciation; conversely, a falling ratio means dollar appreciation.

However, a common mistake investors make is focusing only on a single exchange rate pair. What truly influences the strength of the dollar globally is the “US Dollar Index”—which combines the weighted exchange rates of the dollar against major currencies like the yen, euro, and pound. Interestingly, U.S. unilateral rate cuts do not necessarily lead to a decline in the dollar index—it depends on what other central banks do. If Europe and Japan also cut rates, the speed and magnitude of their cuts will directly determine who rises and who falls.

Four Major Forces Driving the Rise and Fall of the US Dollar

Interest Rate Policies: The First Signal of Capital Flows

Interest rates are the most direct indicator of the dollar’s attractiveness. High interest rates → good returns on USD → capital inflows → dollar appreciation. The opposite applies as well.

But here’s a key detail: The market does not wait for confirmed events to react; it pre-positions based on expectations. The USD market is extremely efficient—before policies are officially implemented, expectations are already priced in. Therefore, investors should focus on the Federal Reserve’s dot plot forecasts rather than the decisions already announced.

US Dollar Supply: The Invisible Hand of QE and QT

When the Fed implements quantitative easing (QE), the supply of dollars in the market increases → dollar depreciates. During quantitative tightening (QT), the dollar supply decreases → potential for dollar appreciation increases.

Similarly, these effects are not immediate. Investors need to continuously monitor the Fed’s policy trends rather than be misled by short-term noise.

Trade Patterns: Long-term Constraints of Import-Export Imbalance

The US’s long-term trade deficit (imports > exports) affects dollar supply and demand. Increased imports require more dollars → dollar appreciation; increased exports reduce dollar demand → dollar depreciation. These impacts are usually gradual and not easily noticeable in the short term.

Moreover, the current US trade policy is becoming increasingly aggressive—from simple tariffs on China to a global trade war. This suggests that future business with the US may decrease, which is a long-term bearish factor for the dollar.

Global Confidence Crisis: Accelerating De-dollarization

The dollar’s dominance relies on trust in the US. But this trust is eroding.

Since the US moved away from the gold standard, de-dollarization waves have been expanding—establishment of the eurozone, the launch of RMB crude oil futures, the rise of virtual currencies—all nibbling away at dollar hegemony. Since 2022, this trend has become especially evident: countries are selling US Treasuries, accumulating gold, and reducing dollar transactions.

This has profound implications for dollar depreciation: if the US cannot effectively restore international confidence, dollar liquidity will continue to decline, and the Fed will have to be more cautious with interest rate and quantitative policies.

The Past 50 Years of the US Dollar Story: How Major Events Rewrite Exchange Rates

History repeats itself. From the collapse of the Bretton Woods system to today, the dollar has experienced eight key cycles:

• 2008 Financial Crisis: Panic triggered massive capital flight into the dollar, causing a surge.
• 2020 Pandemic: The government printed dollars aggressively to rescue the economy, temporarily weakening the dollar. But the US economy rebounded quickly, and the dollar strengthened again.
• 2022-2023 Rate Hike Monster: The Fed aggressively raised rates, pushing the dollar to extreme levels against many currencies, with the dollar index breaking above 114.
• 2024-2025 Rate Cut Cycle: The dollar’s appeal wanes, capital flows into gold, cryptocurrencies, and other higher-yield markets, leading to dollar depreciation.

Will the US Dollar Continue to Depreciate? Market’s Realistic Forecast

Considering all factors, the downside outweighs the upside:

✓ Increasingly aggressive trade policies
✓ Continued de-dollarization
✓ Gold prices keep rising

Based on these observations, the most likely trend for the dollar index in the next year is “high-level oscillation followed by weakening,” rather than a sharp, one-way decline.

But don’t forget one key point: The dollar is fundamentally a “safe-haven currency.” When geopolitical risks erupt or a financial crisis reemerges, capital will rush back into the dollar. Therefore, rather than trying to predict an absolute direction, it’s better to prepare for volatility.

Another often overlooked variable is that the counterparties of the dollar index are also cutting rates. Who cuts faster and whose economic fundamentals are stronger will directly determine who rises and who falls. For example, Japan ending its ultra-low interest rate cycle may lead to yen capital inflows, causing USD/JPY to weaken. Europe’s sluggish economy and slower rate cuts mean USD/EUR may remain relatively strong, but over the long term, as European policies adjust, dollar depreciation potential remains.

The Impact of Dollar Depreciation on Various Asset Classes

Gold: The Biggest Beneficiary

A weaker dollar → lower gold purchase costs. Since gold is priced in dollars, a depreciating dollar automatically makes gold cheaper. Plus, in a low-interest-rate environment, gold has no yield but lower opportunity costs, greatly boosting its attractiveness.

Stock Markets: Short-term Boost, Long-term Observation Needed

Rate cuts typically stimulate capital inflows into stocks, especially tech and growth stocks. But if the dollar becomes too weak, foreign investors may shift to Europe, Japan, or emerging markets, reducing the appeal of US stocks.

Cryptocurrencies: The Biggest Winners of Dollar Depreciation

Declining dollar purchasing power → capital seeking inflation-hedged assets → Bitcoin and other cryptocurrencies become highly popular. Especially amid global economic turbulence and dollar depreciation expectations, Bitcoin’s role as “digital gold” for value preservation becomes prominent.

Specific Opportunities in Major Currency Pairs

USD/JPY (US dollar vs. Japanese yen): Japan ending its ultra-low interest rate cycle may lead to yen capital inflows, causing USD/JPY to weaken.

TWD/USD (Taiwan dollar vs. US dollar): Taiwan’s interest rates follow the US but with its own considerations (housing market regulation, export orientation). Expect Taiwan dollar to appreciate but with limited scope.

EUR/USD (Euro vs. US dollar): Europe’s economy remains sluggish, inflation is still high but growth is weak, and the European Central Bank is not rushing to cut rates. Short-term, the dollar may remain relatively stable, but long-term, as European policies adjust, dollar depreciation space persists.

Practical Strategies to Capture Volatility

The rate-cut cycle is not a static event but a continuous market restructuring. Instead of passively waiting, actively position yourself.

Short-term: Closely monitor USD index fluctuations around each monthly CPI release—these are often times of significant volatility, suitable for short-term trading to long or short.

Medium-term: Choose assets based on the dollar’s depreciation trend—increase allocations in gold and cryptocurrencies, reduce holdings in pure USD assets.

Long-term: Remember an iron law: Whenever there is uncertainty, there is opportunity. Geopolitical risks, economic data, central bank decisions—any surprises can rewrite exchange rate trends, and each rewrite is an entry point for investors.

The focus is not on predicting the future precisely but on understanding the transmission mechanisms of dollar depreciation, proactively positioning, and riding the trend.