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Interest Rate Changes and the US Dollar

Think about interest rates as the price of spending money.  If the fed has raised interest rates, it has raised the cost of spending money.  When interest rates rise, the interest rate on newly issued treasuries (notes, bills, bonds), and bank accounts (savings, money markets, CDs) go up, giving consumers more incentive to save rather than to spend, and banks less reason to lend. 

If the fed fails to entice consumers to save and the supply of money continues to rise as consumers continue to borrow and spend money, an excess supply of money will flood the economy.  With a surplus amount of cash, sellers can ask for higher prices for the same basket of goods and services, causing the demand for them to go down.  This is commonly a prelude to an economic recession, where consumers are fearful to spend due to aggressive and sudden price increases. 

Unfortunately, the fed does not have control over the emotional, roller-coaster like state of consumer behavior even though it knows it’s directly linked to time sensitivity.  The economy will always fluctuate above and below it’s equilibrium state, causing the fed to raise and lower interest rates, which will cause consumers to increase or decrease spending and saving.  This financial cycle sets the stage for traders to bet on the rise and fall of the price of money.  Traders take advantage of fluctuating interest rates by selling dollars prior to rate increases while they are worth more and buying them back once the rise occurs and are worth less.