Growing evidence links US dollar strength to AI capital spending

Price action on Tuesday served as another signal that AI-related capital spending underpins the US dollar's gains this year.

Despite a severe risk-off tone, the US dollar is either lower or nearly unchanged across the board. It moved into negative ground versus the euro earlier, even with France facing riots and debt worries. Against the Canadian dollar, it stands at a one-month trough, and it has fallen 120 pips against the yen.

A sharp fall in Treasury yields accounts for some of the move, but the overarching narrative is AI.

Currently, investors are questioning the funding sources for the AI expansion and struggling to justify the numbers. The expenses are enormous, and with so many participants already, potential lenders are stretched, while retail investors are wary of joining an overcrowded bet.

It has become evident that a large portion of the dollar's outperformance over the past year came from capital directed at US infrastructure spending and related stocks. For AI investment, the United States was the sole viable destination. However, with valuations high and doubts about whether frontier models can compete with open-source versions, the entire economic picture is under scrutiny. That is causing a reversal of the inflows that previously lifted the dollar.

Furthermore, the underlying fundamentals do not justify the dollar's current level amid fraying trade ties and US entanglement in Iran. Thus, even if AI spending halts, the dollar faces a negative gravitational pull that requires continuous AI-related capital inflows to offset. In other words, a dollar decline is inevitable.