The 2026 forecasts are in

Outlook

The Dollar fell 8% during 2025, the worst performance since 2017. More than one analyst say the top factor for the dollar in Q1 is the Fed—not only two meetings (Jan and Mar), but Trump’s choice to replace Powell, whose tenure ends in May. He has been teasing about that announcement and while we all know it will be Hassett or some other sycophant, all holding our breath to see if Trump tries to run the Fed. The loss of independence has been much debated but hasn’t had much effect so far.

Bloomberg reported on Dec 31 that the Dec 23 data showed traders (non-commercial) selling dollars and options pointing to further dollar weakness in January. We have found this information is hardly ever useful. Yes, we know the dollar has a rising tide against it. Look at gold. Look at every editorial in the free world excoriating Trump for mismanagement (DOGE), lies, and out of control ego. But the economy and the stock market say something different and they do count.

The post-mortem on 2025 reveals that we all overestimated the dreadful effect tariffs were going to have, the Number 1 mistake. It turned out that the US consumer and China were able to overcome the tariffs and keep on operating more or less as usual. Critically, tariff-driven inflation did not materialize, at least not yet, and that allows the Fed to cut, with two more cuts expected this year.

Today we still have the final US PMI to go but it’s not likely to move any needles. Then next week we get payrolls and jobless numbers. The latest numbers are not scary at all and do not point to any sense of emergency that would justify a rate cut at the Jan Fed meeting. This is, of course, dollar supportive, or at least not dollar-negative.

The 2026 forecasts are in. Overall, the consensus seems to be the US economy will get 2.7-2.8% GDP growth this year, although health care cost problems alone will raise inflation. Bankruptcies (see below) will continue to rise. We will get closer to recession but not get all the way there, although unemployment can get well over 5%. Consumption will be okay, if still led by the K-shaped consumer base, which is not bothering anybody important. AI continues but will not be all that disruptive (yet). No major institution sees the bubble bursting and everyone projects equities higher. Yields may rise a bit but nothing frightening with TreasSec Bessent jiggering the books. 

Hardly anyone adds what happens politically, but Mish believes Trump will lose the tariff authority and have to go get it elsewhere. He will lose the birthright case and he will also lose the case for firing Fed Gov Cook. The Republicans will probably lose the midterm elections in November, giving the Dems back the House. Trump knows this and may front-load more outrage, but also knows he has executive orders that take months to wend their way through the courts. 

Weirdly, the economic stuff is actually pretty mundane and not exciting, while the political stuff is still scary.

Forecast

We were wrong to see the year-end price action as just positioning. There seems to have been a grain of reality at work. We thought that euro had a good chance of recovering and testing the previous high over 1.1800. But now it looks like 1.1800 in a ceiling and the test of the lows is in the cards.

As for the dollar/yen, the market still wants to test the Japanese FinMin resolve to halt additional yen weakness to 160. That’s a party we wouldn’t join.

Food for thought: Among the flood of predictions for 2026, we find a few worth contemplating. First, there is a renewed sense that social and governmental stability are worthy values. This includes control of corruption. regulatory clarity and an independent bureaucracy (terms from Bloomberg’s Odd Lots). This means US bad, Europe good (plus Canada and Australia/NZ).

Second, we didn’t get stagflation/recession in the US as the doomsters predicted given tariffs and an unstable president. But while GDP was a very nice 3.8% in Q3, it’s due to special sectors, especially the AI complex. But nor do we not have a widely distributed revival. As noted last week, bankruptcies 2025 saw a significant surge, and not just individuals and small companies. The number of large company filings reaching its highest level since 2010.

The Google AI (don’t sneer—we sometimes check the AI summaries and no false info so far): total filings as of Nov were up 10% y/y to 557,376. Big company filings rose 14%, with “mega bankruptcies” of outfits with over $1 billion in assets numbered 17 in the first half, the most since the pandemic in 2020. Personal filings jumped 10.8%.

Then there’s the battle between the gigantic US economy and financial markets vs. a really bad, erratic, mismanaging presidential administration. Financial types shy away from the political. A sovereign wealth fund somewhere overseas really doesn’t care whether Trump puts troops on Chicago. But they are aware that diversification away from US assets is a good idea. This is quite hard to do.

The Dollar is one of the two components of 80% of every FX trade. The dollar is 56% of official reserves, 60% of trade finance—it’s the “hegemon”—and 50% of SWIFT transactions. The US has 25% of global GDP and its equity markets are more than 65% of MSCI AC World index. The US bond market is the largest in the world and accounts for about 40% of total global market value.

In sum, the US is punching way over its weight. As Bloomberg puts it, “… the US’s share of capital markets are two-to-four times its economic weight. While not unusual – for example, the British pound remained the dominant global currency for decades after it faded as an economic power – the pace of diversification away from the US dollar is accelerating (just in the last six months, the USD’s  share of FX reserves has dropped by more than 2%), driven by volatile US policies and what Paul Krugman once described as swings in the ‘insanity premium’.”

About that comparison with the UK—it doesn’t hold water, or rather it leaks like crazy. There were a dozen reasons why the pound was finally devalued in 1967 (after devaluing in 1949). For one thing, currencies were fixed at the time and not floating as they are now. The reasons include a giant rise in money supply that fueled inflation and rising unemployment, a very big trade deficit, a very big government deficit, and a not very capable Labour party in charge.  One of the government’s “solutions” was an import surcharge. Sound familiar?

This is not to say the US will follow the UK in losing its hegemon status and extraordinary privilege as the reserve currency. It is to say others are on the way up. In bond markets, next after the US is Europe and after that, China. And bond markets probably rule the roost. Europe is unbearably messy and while it has as a single-name bond market and improving efforts at multiple-country market integration, we still look to the German Bund for “European yield.” 

This means it will be very hard to unseat the US from the top of the pile. It could take years. And by the time everyone is throwing in the towel on Trump, he will be replaced. Bond guys have a lot of patience. For the dollar, this means our perception of an ever-falling fate is not backed up by structural conditions. Alas, we can easily see the dollar rise cyclically on batches of good news, as in normal times. It’s not going to be a one-way street. The US economy and markets are so big, robust and resilient that not even Trump can bring it down.