* Of Chr. Christodoulou-Volos
In financial circles, the status of the US dollar is rarely questioned, after all it remains the dominant reserve currency and a cornerstone of global trade and finance. However, persistent signs suggest the dollar could face significant near-term trouble, perhaps early next year. Listed below are the main economic and geopolitical reasons that lead to this possibility, and what their implications might be.
Economic drivers of dollar weakness Monetary policy and interest rate outlook
One of the most direct influences on a currency's value is the interest rate differential. If the Federal Reserve (Fed) moves to ease policy, either by cutting interest rates or signaling a more dovish stance, the yield advantage of dollar assets is eroded, which will tend to weaken the currency. Recent analysis shows that markets are increasingly discounting US interest rate cuts, which are putting downward pressure on the dollar. In this sense, the dollar's strength over the past decade may have exceeded fundamentals – and as valuations normalize, the currency's value could correct. For example, one major investor note observes: "After a strong decade, the dollar is within our fair value range."
Fiscal imbalance and current account pressures
The US runs large budget and trade deficits, which over the long term tend to put downward pressure on a currency. The so-called Triffin dilemma reminds us that the issuer of a global reserve currency often needs to supply more of that currency, including through deficits, to satisfy global demand, but such a persistent imbalance can cause structural weakness. In addition, when foreign investors question the sustainability of government borrowing or expect inflation or erosion of real yields, they may reduce their holdings of dollar assets, or demand higher yields. This dynamic adds risk to the dollar.
Valuation and capital flow reversals
The US has enjoyed capital inflows for many years. But as global growth patterns change and as other currencies or assets become more attractive, this can weaken the dollar. The Vanguard commentary, for example, notes that "[the dollar's] bearish trend was significantly accelerated by ... tariffs ... given the expectation that US economic growth will slow in 2025."
In short, if the pace of US economic growth is disappointing, or foreign investors expect better returns elsewhere, capital may flow out of dollar assets, putting pressure on the currency.
Commodity prices and inflation dynamics
A weaker dollar is usually associated with higher commodity prices (many commodities are denominated in dollars), which in turn can fuel inflationary pressures in the US. But if the Fed reacts aggressively to inflation, that could put growth at risk, creating a difficult policy trade-off. Conversely, if inflation falls and the Fed eases policy, the interest rate differential shrinks. A weaker dollar is therefore a likely outcome of this trade-off.
Geopolitical and Structural Barriers Shrinking of “excessive privilege” and de-dollarization trends
The US has long enjoyed what economist Jean Bodin once called "excessive privilege" because of the dollar's role as the main reserve currency. But over time, other countries have actively sought alternatives – whether trade settlement in other currencies, bilateral agreements bypassing the dollar, or reserve diversification. As this process progresses gradually, structural demand for the dollar may weaken, which would act as a drag on the currency's value.
Geopolitical uncertainty and policy credibility
Currencies don't just reflect the economy – they also reflect trust, governance and political coherence. The US faces increased domestic political divisions, pressure on the independence of the Fed and unpredictable moves in trade and foreign policy. Some analysts interpret the dollar's recent weakness as a sign of eroding investor confidence in the direction of US policy. In other words, when foreign investors are concerned about policy stability, they may reduce exposure to dollar assets, resulting in a weaker exchange rate. Adjustments to the global supply chain and trading system
The world is moving away from the US-centric just-in-time supply chain model towards more regionalised, diversified chains – partly in response to COVID-19, the US-China rivalry and the war in Ukraine. As trade structures change, so do exchange rate settlement patterns, potentially reducing the indirect “dollar tax” that many non-US exporters have paid in recent decades.
Trade tensions, tariffs and retaliation: short-term effects
Tariffs and trade uncertainty can sometimes support safe-haven demand for the dollar in times of crisis, but they also undermine US growth prospects and raise questions about the logic of trade policy. Brokerage firm commentary points to escalating trade tensions between the US and China as a contributing factor to the dollar's recent decline.
Why do the beginnings of 2026 matter?
Putting all this together, one can understand why analysts are pointing to early next year as a possible turning point for dollar weakness.
The Fed appears to be moving toward easing. When this starts, the yield advantage shrinks and the dollar tends to weaken. Should US growth turn out to be weaker than expected (especially in the context of large deficits and slowing global growth), the economic rationale for a strong dollar erodes. Geopolitical problems can shift. As global players increase their use of non-dollar settlements or diversify reserves, the factors that helped the dollar weaken. Also, the valuation: many observers note that the dollar may already be quite overvalued relative to fundamentals. This suggests less room for further appreciation and more room for depreciation. Finally, behavioral dynamics matter. As the dollar weakens a bit, this sometimes triggers a self-reinforcing trend: weaker currency → fears of capital outflows/stagflation → further weakening. Effects and what to watch out for
For investors, companies and policymakers, a weaker dollar has broad implications.
Commodity prices may rise, adding to inflationary pressures, imports become more expensive, consumers may feel the pinch. Emerging markets may benefit from currency easing (when the dollar weakens, associated borrowing burdens typically ease), but also face risks if the dollar's move reflects concerns about global growth. Borrowers and holders of US assets: A weakened dollar can make foreign currency liabilities more bearable for non-US issuers, but can hurt US holders of dollar-based assets. Policy risk: If the Fed or Treasury misinterprets the signals, e.g. delay easing too long or react to inflation in a growth-stifling way, the dollar's decline could be more intense or more unstable. World reserve currency status: A slow but substantial weakening of the dollar raises questions about its future role. While a complete "collapse" is unlikely, a gradual erosion of dominance shifts the balance of power. Warning
It's worth emphasizing that none of this suggests immediate catastrophic results. The dollar still enjoys enormous structural advantages: depth of markets, global use and safe-haven appeal. Many analysts believe that the complete loss of reserve currency status is remote. But what is plausible, and increasingly likely according to recent comments, is that the dominance of the dollar will enter a phase of moderate depreciation, greater volatility and structural weakening.
Conclusion
In the interplay of economics and geopolitics, a few important patterns are converging: US monetary and fiscal policy suggests looser support for the dollar. Global trade and financial systems are slowly but surely diversifying away from the dollar. Investor confidence in American politics is under pressure. This data points to the possibility that the dollar will begin a more sustained depreciation in early 2026.
For anyone with exposure to dollar-based assets or whose business depends on cross-border flows, now is a prudent time to consider risks and, where appropriate, ensure strategies are stress-tested for a weaker dollar.
*Associate Professor of Economics and Finance at the University of Neapolis Paphos
