The dollar dropped 5% from its peak in June as investors anticipated a decrease in the Federal Reserve’s key interest rate last week.

With inflation being a major concern for many voters prior to the November elections, what effects would a weaker dollar have on your finances and investments, and what can you do about it?

While the dollar has appreciated over the last decade, that trend is likely reaching its conclusion. It’s important to note that the dollar will not disappear; it is expected to remain the leading global currency for the foreseeable future. However, many investors are preparing for a potential decline of the dollar after its long period of gains.

The US dollar: Impact on your interests and national interests

The appreciation of the dollar enhances the returns of U.S. investments relative to foreign assets and reduces the costs of imported goods and international travel. Thus, a strong dollar is often viewed positively, and U.S. Treasury secretaries have emphasized this since the Clinton era.

It may now be time to brace for a shift in the value of the U.S. dollar.

The primary reason for this shift is straightforward: The Federal Reserve’s decision to cut its benchmark interest rate by half a percentage point on September 18 marked its first rate reduction in four years.

The era of dollar strength began when the Fed’s tightening policy took hold while interest rates were negative in both Europe and Japan. This made the U.S. the preferred destination for large companies and global investors to hold their funds. Rate cuts by the Fed may weaken this demand for dollars, especially compared to currencies like the Japanese yen, which are witnessing rising interest rates.

Furthermore, the downward pressure on the dollar is tied to ongoing macroeconomic and geopolitical trends. The fiscal policies of both Republican and Democratic administrations have increasingly relied on significant deficits and growing public debt, even when the economy was relatively strong.

One-third of these borrowed funds originate from overseas investors, and there might come a time when international investors lose their appetite for dollar-denominated bonds.

How US political decisions and foreign policy impact the dollar

While economic indicators like interest rates typically steer currency markets, political decisions also play an important role.

Many experts agree that the dollar’s strong position globally is partly supported by U.S. military dominance. Countries that enjoy U.S. security guarantees are generally more inclined to use the dollar for trade and finance.

If the U.S. were to reduce its international commitments, such as its obligations to NATO or its agreements with Japan and South Korea, foreign governments might begin to seek alternatives to the dollar.

Additionally, U.S. foreign policy often discourages the global use of the dollar through extensive financial sanctions. Since the 2003 Iraq War, there has been a decrease in public support for military interventions, leading elected officials to resort to financial sanctions to achieve foreign policy objectives.

For example, in February 2022, President Joe Biden imposed sanctions on Russia, citing the country’s aggressive military actions in Ukraine.

Although sanctions can be less costly in terms of resources, they may also motivate other nations to explore alternatives to systems that rely on the dollar for banking and payments. While switching payment networks can be expensive, it might be worthwhile for countries that risk long-term exclusion from the global financial system, like Russia or Iran.

However, there remain compelling reasons for foreign entities to continue engaging with U.S. capital markets, such as the profitability of major U.S. corporations and the ongoing innovations from American startups.

There seems to be a unique aspect of modern American capitalism—characterized by a mix of tax and bankruptcy laws, venture capital investments, collaborations with leading universities, robust domestic energy production, among other factors—that contributes to this continued foreign interest in U.S. assets.

This situation is not something that can be easily reproduced globally.

As long as these conditions stay unchanged, dollar-denominated assets will continue to compete well against international options, and any fall in the dollar’s value is expected to happen slowly.

To safeguard their portfolios from the risk of dollar depreciation, investors have multiple strategies, such as diversifying their holdings with foreign stocks and bonds or investing in gold, either by purchasing physical bars and coins or through exchange-traded funds.

Having assets that thrive when the dollar weakens can also serve as a buffer against rising import prices.

Our research at Grayscale, a cryptocurrency asset management firm, indicates that bitcoin may be the most suitable investment for those worried about dollar depreciation and persistent inflation. Bitcoin operates as an alternative currency system through blockchain technology and represents a limited digital asset, similar to physical gold.

A national survey conducted by Harris Poll in May revealed that nearly 20% of Americans own bitcoin, while around half of the population remains unaware of it and other cryptocurrencies.

For supporters of bitcoin, this highlights a consistent demand for the asset, but it also suggests ample opportunity for wider acceptance. As more finance professionals become acquainted with bitcoin, we are hopeful that they will recognize its fundamental value and increasingly incorporate it into their investment strategies.