US Dollar: Modestly bearish path under gridlock – TD Securities

TD Securities analyst Jayati Bharadwaj anticipates a divided U.S. Congress will keep macro fundamentals as the primary driver for foreign exchange, leading to a modestly bearish outlook on the U.S. dollar through year-end. The bank suggests that fiscal gridlock could narrow U.S.-RoW growth and interest rate differentials, while bolstering the U.S. dollar's institutional credibility.

A Democratic takeover of Congress is perceived as initially positive for the dollar, whereas sustained Republican control is viewed as the most unfavorable outcome for the currency. The bank expects a divided government, which would modestly reduce U.S. growth and interest rate differentials, but enhanced fiscal discipline and institutional credibility should limit the dollar's downside.

Reduced probability of new tariffs and White House pressure on the Federal Reserve should alleviate upside risks for copper and aluminum, strengthen the Fed's independence, and mitigate the bullish case for gold and silver. An initial favorable scenario for the dollar is most likely if the Democratic Party secures a sweeping victory.

However, the most bearish scenario for the dollar emerges if Congress remains split, and policymakers pursue more tax cuts, increase defense spending, and make permanent portions of the Outbreak Bill and Border Security bill. This would heighten concerns over fiscal sustainability and the trajectory of the U.S. budget deficit. The Australian dollar maintains a negative bias for the third consecutive day, staying close to a monthly low in Wednesday's Asian trading session.

The U.S. dollar remains near a two-week peak, as expectations of a Federal Reserve rate hike and concerns about oil-driven inflation continue to push U.S. bond yields to multi-year highs. Rising tensions between the U.S. and Iran also reinforce the dollar's role as the world's dominant reserve currency.