The dollar is rallying because funds are coming back to the US as a safe haven. The fund flows include equity liquidation of foreign stock holdings in mutual funds as well as foreign investors. If you are a US investor better to take US bank risk than European risk. If you want to attract capital, bail-out banks and the housing market. If you do not bail-out your banks, you are at a global financial flow disadvantage.
On the surface, this seems crazy given the fall-out in the US banking system. Dollar versus the euro is higher than the beginning of the month. It has rallied 4 big figures in the last week. The DXY index is at levels seen a year ago.
The only explanation is that investors believe that the US government is ahead of the curve relative to their European and British counterparts. The ECB has kept rates stable to fight inflation and the MPC has also still focused on inflation with their rate setting. The British housing market and bank exposures look vulnerable given the current loses and failures. The bail-out help for Fortis Bank suggests that to stem the outflow of capital there will have to put forth capital infusion plans in other parts of the globe. The dollar movement is not about interest differentials or economic models but policy expectations which can only be captured in short-term trends.
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