A BETTER STRONG DOLLAR MODEL
I think I have come up with a model that explains why old currency models have failed
Most classic currency models (at least the ones I use) would have suggested dollar weakness for some time now. One of my favourite measures, Net International Investment Position (NIIP), worked well at signalling a dollar top in 2000 when liabilities rose above assets, and a dollar bottom in 2010 when assets caught back to liabilities. However, this model has been bearish the US dollar from at least 2016.
Given this backdrop, I would have assumed a rising inflation and tightening financial conditions would likely see the US dollar weaken, at least against commodity currencies. But this has not been the case. One example has been the Australian dollar, which up until a few years ago followed commodity prices (terms of trade) very closely, failed to strengthen during the commodity boom of 2022. Similar breakdowns can be observed in Norwegian Kroner.
I have been giving it some thought, and I think there is a way to model US dollar strength that explains the above discrepancies.
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