Dollar Index

The dollar index rallied in the first half of 2010 mainly because of the European debt crisis, which caused safe-haven demand for the dollar and caused weakness in the euro due to concern that the Eurozone might break apart. The European debt crisis emerged when it became obvious that Greece and other Eurozone countries such as Ireland had amassed such large fiscal deficits that they were on the cusp of defaulting on their sovereign debt. This raised the possibility that such countries could be forced to drop out of the Eurozone or that the euro might break apart altogether if Germany refused to foot the bill for a bailout. However, Germany, France and the other stronger members of the Eurozone were able to cobble together a bailout package that at least temporarily kept Greece and Ireland from defaulting on their debts. The bailout reduced worries about the debt crisis and the dollar in the second half of 2010 gave back the rally seen in the first half of the year.

The dollar in the second half of 2010 was pressured by two main long-term bearish factors, i.e., the persistent U.S. current account deficit and the desire of Asian central banks to slowly diversify away from their heavy reserve holdings of dollars. The U.S. current account deficit remained very high at over 3% of GDP in 2010, which meant that about $1.4 billion in dollars flowed out of the country every calendar day. The dollar was also pressured by the fact that the European Central Bank’s monetary policy was significant tighter than the monetary policy of the Federal Reserve during 2010.