Investing.com – While the strength of the US economy may limit the dollar's decline, the Fed's dovish turn at its December meeting supported the case for continued weakening in 2024.

After a two-decade high on the back of a Federal Reserve interest rate hike in 2022, the greenback has been broadly buoyed by solid U.S. economic growth this year and the central bank's pledge to keep borrowing costs high.

The dollar has lost 2% this year against a basket of peers, its first annual loss since 2020.

One month…the collapse of the dollar

It marked an unexpected U-turn after Chairman Jerome Powell said the historic tightening of monetary policy, which pushed interest rates to their highest levels in decades, was over as inflation cooled. Officials are now expected to submit…

Rate cuts are generally seen as a drag on the dollar as they make dollar-denominated assets less attractive to yield-seeking investors. Although strategists expect the dollar to weaken next year, the faster pace of interest rate cuts could accelerate the currency's decline.

Still, betting on a falling dollar has been a risky move in recent years, and some investors are wary of rushing in. The US economy, which continues to outperform its peers, could be a headwind for passive investors.

“Effective monetary reserves and growth policies aimed at boosting growth in the US represented US exceptionalism and delivered the strongest dollar rally since the 1980s,” said Kit Jukes, head of FX strategies at Societe Generale. Once the central bank eases policy, “some of these gains will have to be reversed,” he said.

Central bank cuts…150 basis points?

The dollar's path depends on central bank downgrades and the extent to which inflation actually reflects its value. Contracts linked to the Fed's rate, investors estimate, are expected to cut by more than 150 basis points next year, more than double what central bank officials have intended. According to Matt Wheeler, head of market research at StoneX, “If inflation stops and doesn't continue to decline, that's the case for the Fed to delay the process. “That would certainly be a positive development for the dollar.”