US Dollar was considered one of the premier safe haven currencies in the world prior to September 11 because the risk of severe United States instability was considered to be very low. United States was known to have one of the safest and the most developed capital markets in the world.
This allowed United States to attract investments from all over the world at a discounted rate of return. Almost 76% of the global currency reserves were in US Dollar. Post 9/11, foreign investors and the Central Banks are not so sure about the US Dollar due to the increased US uncertainty like the present recession and decreasing interest rates.
Important countries that peg their currencies to US Dollar are China and Hong Kong. Many developing and emerging countries peg their local currencies to US Dollar. China is a very active participant of the global currency markets because its maximum float per day is controlled within a narrow band based on the previous days closing US Dollar rates. Any fluctuations beyond this band will invite intervention by the Chinese Central Bank that may include buying and selling US Dollars.
EU represents a market as large as US with its own single currency Euro. Euro has provided an alternative to the US Dollar. The emergence of Euro is also threatening the US Dollar as the worlds premier reserve currency. Recently a group of countries like China, France and others have called for the introduction of a new global reserve currency by the IMF that should replace the US Dollar. If this happens in the next few years, it may have far reaching implications of the US Dollar and the US economy.
Many analysts fear a major devaluation of US Dollars in the near future due to the present financial crisis in the United States. Many central banks have already begun to diversify their foreign exchange reserves by reducing their US Dollar holdings and increasing their holdings in Euro and the gold. The US markets are the largest markets in the world and the investors all over the world are very sensitive to the yields offered by the US assets. Money flows where the returns are high. Interest rate differentials can be a very strong indicator of potential currency movements. The interest rate differentials between the US Treasuries and foreign bonds are followed by the professional forex traders with keen interest.
The USDX is a futures contract traded on the New York Board of Trade (NYBOT). Market participants also closely watch the US Dollar Index as an indicator of overall US Dollar strength or weakness. It is important to follow this index because when the market analysts are talking of general US Dollar weakness, they are referring to this index.
US Dollar is also impacted by the US Stocks and Bond markets. Cross border merger and acquisitions are also very important for forex traders to watch.
The following economic indicators are important for the US Dollar: Employment, Nonfarm payrolls, Consumer Confidence, Retail Sales, Consumer Price Index, Produced Price Index, GDP, International Trade, Employment Cost Index, Industrial Production, TIC Data etc.