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Despite China’s well-documented economic struggles, the CPI 300 Index climbed more than a percentage point on December 23rd, but its uptick wasn’t due to its government’s stimulus packages, positive manufacturing data, or signs of strength in the yuan, it was because US inflation figures arrived cooler than expected. But why does this matter?
The CSI 300, which reflects the top 300 stocks on the Shanghai Stock Exchange and the Shenzhen Stock Exchange, climbed 1.42% between December 20 and 24, 2024, representing its strongest consecutive days of growth throughout a challenging month.
Other Asian indexes like Japan’s Nikkei 225 and South Korea’s KOSPI experienced similar growth while other continents also felt the positive impact of soothing US inflation data.
Crucially, the subdued US inflation figures pointed to the likelihood of easing monetary policy and interest rate cuts in the United States in 2025, adding to a fresh wave of optimism after the government successfully averted a shutdown.
Why is optimism in the US so important to global markets? And why does inflation data in the United States mean so much to Asian markets? Let’s take a deeper look at the butterfly effect of US inflation and why it impacts the rest of the world:
The World’s Reserve Currency
The US Dollar has long been adopted as the world’s reserve currency, making global economies more tightly linked to market movements in the United States as a result of the Bretton Woods Agreement back in 1944 which involved 44 nations.
In the wake of the agreement, countries bought US Treasury securities as a means of storing their dollars safely, strengthening the United States’ position as a leading global financial powerhouse that carries a major impact on other international economies.
As of the second quarter of 2024, global central banks held around 58.22% of their allocated reserves in US dollars, according to the International Monetary Fund (IMF). Much of this takes the form of cash and US bonds such as US Treasuries.
This means that the impact on inflation in effectively devaluing the USD has major implications throughout the nations that have adopted the US dollar as a reserve currency.
Trade Implications
The sheer scale of the US economy also plays a significant role in causing its inflation data to be felt around the world. At present, the United States economy makes up around 23% of the entire global economy, and this can mean that positive or negative news domestically can have a ripple effect worldwide.
It’s for this reason that institutional traders have become accustomed to using prime brokerages to measure the US market impact on their international assets to avoid any unwanted repercussions.
As the world’s largest importer of goods, economic fluctuations can heavily impact the $3.2 trillion in imports the United States brings in annually. Likewise, the US is second only to China in terms of exports with refined petroleum, crude petroleum, petroleum gas, cars, and integrated circuits all especially vulnerable to the fortunes of the domestic economy and ability to trade with partners overseas.
Because inflation pushes the price of goods and services higher, entire supply chains can face disruption as production becomes more expensive for businesses which can then face hiking prices for consumers or clients.
The Effect of Interest
Another globally pertinent matter that can severely impact trade and the performance of the US dollar is interest rates. As inflation started to drive consumer goods higher in the United States, the Federal Reserve opted to undergo a series of interest rate hikes in a bid to slow spending and cool inflation.
However, these interest rate hikes can have a profound impact on the rate of borrowing on an international scale.
The effect of interest rate hikes can be uneven depending on your respective goals. For customers hoping to borrow money from their bank to make a purchase, the high repayment rates from banks can be challenging. The same applies to BNPL providers. However, in recent years, high interest in the US saw the dollar gain strength as investors sought to take advantage of greater returns on bonds and other investment strategies.
Although a stronger US dollar may seem like a good thing, it once again adversely affects international trade due to the weakening of other currencies in comparison. Given the United States’ status as a trade powerhouse, a strong dollar isn’t ideal.
Sentiment Matters
Finally, and perhaps most importantly in today’s rolling news cycle and sentiment-driven markets, inflation in the US can have a profound effect on global markets because it fosters uncertainty.
Higher-than-expected inflation statistics can unsettle different areas of economies and shape monetary policy, investor strategies, consumer confidence, trade, and even political discourse.
Some economists believe that the result of Donald Trump’s resounding Presidential election victory was influenced largely by US inflation, which goes some way in underlining the level of narrative-changing uncertainty that it can deliver when reaching historical highs.
Likewise, lower inflation environments generally make economies more predictable, helping to deliver more stability that can be felt globally.
Inflation Matters
Whether you’re an investor seeking opportunities within global financial markets or are a consumer looking to navigate the cost-of-living, inflation can have a profound impact on both national and international economies.
Although it can be difficult to navigate high inflation environments, greater volatility and economic uncertainty can provide fresh investment options for institutional traders aiming to maximize their yield by reacting quickly to emerging news and fresh trends.
The United States and the dollar’s key role in global trade and financial markets means that US inflation will continue to have a major impact on the world’s economic health, and this can provide plenty of risks and opportunities for investors on an international scale.
Reviewed and edited by Albert Fang.
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Article Title: The Butterfly Effect: Why Are Global Markets Affected So Much by US Inflation?
https://fangwallet.com/2025/01/17/the-butterfly-effect-why-are-global-markets-affected-so-much-by-us-inflation/The FangWallet Promise
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