Global Tariff Retaliation Unravels Dollar's Century-Old Strength

The U.S. dollar is experiencing its longest losing streak since April 2025, following a sharp depreciation linked to the 'Liberation Day' tariff announcements on April 2, 2025. This decline has raised questions about traditional economic assumptions, which previously suggested that tariffs would strengthen a country’s currency by shifting global demand. However, recent studies and historical evidence indicate that the outcome depends heavily on whether foreign trading partners retaliate. In the case of the 2025 tariff announcements, widespread global retaliation appears to have played a critical role in the dollar’s depreciation against major currencies such as the euro and the yen [1].

The depreciation was not an isolated event. A similar pattern emerged in March 2018 when the U.S. imposed tariffs on steel and aluminum imports from the EU. The euro rose against the dollar in the days following the announcement, particularly as retaliation from the EU was quickly anticipated and implemented [1]. Analysis of daily exchange rate data from 2018-2020 and 2025 confirms a consistent trend: U.S. tariffs that provoke retaliatory measures typically lead to dollar depreciation, whereas unilaterally imposed tariffs can lead to appreciation. This distinction is critical in understanding the dynamics of global trade policy and currency movements [1].

The 2025 tariff shocks were particularly large in scale, with one notable action amounting to a 14 percentage point shock. These actions were predominantly targeted at a broad range of countries, not just China, and were met with widespread retaliation, contrasting with earlier episodes in which most U.S. actions were directed solely at China and faced less predictable responses [1]. The global response in 2025 was more coordinated and immediate, contributing to a more pronounced depreciation of the dollar. The use of an 'effective tariff rate'—a metric combining tariff rates and import shares—helps quantify the economic significance of each event [1].

The depreciation of the dollar in 2025 was also accompanied by a notable shift in long-term U.S. Treasury yields. Unlike previous tariff episodes, where short-term yields declined due to expectations of monetary easing, the 2025 period saw a sharp rise in long-maturity yields, an unprecedented development in the dataset [1]. This divergence may indicate a shift in investor perceptions regarding the safety of U.S. assets and the dollar’s role as a reserve currency. Some analysts have labeled this phenomenon a 'reserve-currency shock,' suggesting a re-evaluation of the dollar’s status in global markets [1].

Recent economic developments have further reinforced the dollar’s downward trajectory. A weak U.S. jobs report on September 5, 2025, showed that nonfarm payrolls increased by only 22,000 jobs in August, well below the 75,000 forecasted. This data has heightened expectations of a Federal Reserve rate cut in the coming weeks, traditionally supportive of weaker dollar conditions [2]. The dollar index dropped 0.48% to 97.767, with the euro rising to $1.1717 and the yen climbing to 147.44. The market is now pricing in a near 100% probability of a rate cut in September, with a 90% chance of a 25 basis point reduction [2]. Analysts suggest that while a larger cut may be debated, a more measured approach is expected to avoid signaling policy errors [2].

The depreciation of the dollar and the anticipation of rate cuts have broader implications for global markets. Investors are shifting capital to safer assets, with the euro and Japanese yen benefitting from the relative uncertainty in the U.S. economic outlook. The U.S. Treasury yield curve has also inverted further, as long-term yields climbed while short-term rates fell—a historically significant sign of economic caution [2]. As the dollar continues to face pressure, the coming weeks will be critical in determining whether the Federal Reserve’s policy decisions can stabilize the currency or if broader structural changes in global trade policy will further erode the dollar’s dominance [1].

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[1] Tariffs and US dollar depreciations: Not so surprising after all (https://cepr.org/voxeu/columns/tariffs-and-us-dollar-depreciations-not-so-surprising-after-all)

[2] Dollar falls sharply after jobs data misses expectations (https://finance.yahoo.com/news/dollar-holds-ground-bonds-footing-020053794.html)