After a brutal 12.5% plunge through the first three quarters of 2025, the U.S. Dollar Index has found its footing—trading near 100 as of November 6, 2025. Meanwhile, the 10-year U.S. Treasury yield has settled into a narrow band between 4.00% and 4.06%, a surprising calm after months of whiplash. This isn’t just market noise. It’s a signal that investors are recalibrating their bets on the Federal Reserve, inflation, and the global role of the dollar.
Why the Dollar Stopped Falling—And What It Means
The dollar’s collapse earlier in 2025 was dramatic. It tumbled from 110 in mid-January to a low of 96.35 on September 17, 2025, right after the Fed cut rates for the first time since 2020. Markets had expected a flood of easing. Instead, they got a pause. And then, nothing. By October, the dollar stopped bleeding. Why? Because inflation didn’t cooperate. Jobs data stayed stubbornly strong. Wage growth refused to soften. The Fed’s message, repeated by Jerome Powell in every speech, was clear: we’re not done yet.
What followed was a quiet revolution in bond markets. The 10-year yield, which had spiked to 4.6% in May, pulled back—but not because investors feared recession. It pulled back because the market realized the Fed wasn’t going to slash rates as aggressively as priced in. That’s the twist: yields aren’t falling because the economy is weak. They’re stabilizing because the economy is *too* strong for cuts.
Market Voices: ‘Rates Are Too Low’
Morgan Stanley didn’t mince words in its November BEAT report: ‘UST 10-year yields breaking below 4% are too low relative to the economic outlook.’ The firm’s fixed income team pointed to growing tailwinds in consumer spending, business investment, and labor resilience. ‘The combination of stronger growth and sticky inflation,’ they wrote, ‘skews the Fed to fewer cuts than what is currently priced in over the next 12–18 months.’
That’s a direct challenge to Wall Street’s consensus. Futures markets were pricing in over 100 basis points of cuts by mid-2026. Morgan Stanley says that’s fantasy. And they’re not alone. Schroders noted that while dollar sentiment remains negative, ‘performance has stabilised.’ Columbia Threadneedle Investments warned investors to watch the dollar and yields together—because if both start falling, it could mean tariffs are finally biting into demand.
Global Ripple Effects
The dollar’s pause isn’t just an American story. It’s echoing overseas. The Bank of England saw its 10-year Gilt yield plunge 29 basis points in October—the biggest monthly drop since December 2023. Why? Because investors now expect a BOE rate cut by year-end, betting the U.K. economy will lag behind the U.S. Meanwhile, MUFG Research projects the euro will rise to 1.2000 against the dollar by Q3 2026, a move that would make European exports cheaper and U.S. imports more expensive.
Even China’s yuan and Australia’s dollar are in play. MUFG forecasts the CNY at 7.1000 and AUD at 0.6542 by next year—levels that reflect both commodity demand and relative U.S. strength. BlackRock’s Fall 2025 Investment Directions noted something profound: ‘A declining U.S. dollar has helped boost returns, potentially indicating a structural relationship change.’ In other words, the dollar’s decade-long dominance as the world’s risk-off haven might be softening.
What’s Next? The Inflation Wildcard
Here’s the real question: Will inflation reaccelerate in 2026? Morgan Stanley thinks so—and that’s why they’re overweight on inflation-linked bonds. ‘We continue to see value in this space, particularly on the longer sections of the curve,’ they wrote. If consumer prices creep up again, the Fed will have no choice but to hold rates higher for longer. That could push the 10-year yield back toward 4.5%.
But if inflation continues to cool—despite strong growth—then the Fed might finally ease. And if that happens, the dollar could resume its decline. The market is caught in a tug-of-war: growth wants lower rates, inflation wants higher ones. Right now, inflation is winning.
Historical Context: A Year of Whiplash
2025 began with the 10-year yield at 3.8%, and by May, it had jumped 80 basis points in two months, hitting 4.6%. That surge followed the Fed’s September 2024 Summary of Economic Projections, which signaled fewer cuts than markets expected. Jerome Powell spent 2025 hammering home that message: ‘We’re data-dependent.’ And the data kept pointing to resilience.
Now, after the September rate cut, the market is recalibrating. The 60-day correlation between the dollar and 10-year yields has stabilized at 0.55—meaning they still move together, but not as tightly as in 2024. That’s a sign of maturity. Investors are no longer panicking over every CPI print. They’re thinking longer-term.
And that’s why this moment matters. We’re not seeing a new trend. We’re seeing the end of a false narrative—that the Fed would be forced into rapid easing. The truth? The U.S. economy is tougher than anyone thought.
Frequently Asked Questions
Why did the U.S. dollar fall so sharply in early 2025?
The dollar’s 12.5% drop from January to July 2025 was driven by market expectations of aggressive Fed rate cuts following signs of slowing growth and cooling inflation. Investors priced in multiple cuts by mid-year, weakening demand for dollar-denominated assets. The September 2024 Fed projections, which signaled fewer cuts than expected, had been ignored—until the actual cut in September 2025 forced a brutal repricing.
What does a 4.02% 10-year Treasury yield tell us about the economy?
A 4.02% yield is high by historical standards but low relative to current economic strength. It suggests markets believe growth will remain above trend and inflation won’t fully return to 2%. Morgan Stanley and others argue this level is too low to reflect the Fed’s likely stance—implying yields may rise if inflation persists or growth accelerates in 2026.
How are global central banks reacting to U.S. monetary policy?
Central banks like the Bank of England and the European Central Bank are watching the Fed closely. The BOE’s sharp Gilt yield drop in October signaled growing bets on a rate cut by year-end, as the U.K. economy lags behind the U.S. Meanwhile, the ECB is hesitant to ease too quickly, fearing currency weakness. The dollar’s stabilization is giving them breathing room—but also complicating their own policy decisions.
Why are inflation-linked bonds gaining favor among investors?
Morgan Stanley and other firms see value in inflation-linked bonds because they believe inflation will remain sticky—or even reaccelerate in 2026 due to wage pressures and service costs. These bonds pay out more when inflation rises, making them a hedge against Fed policy surprises. Longer-dated versions, in particular, are seeing strong demand from pension funds and sovereign wealth managers.
Could tariffs reverse the dollar’s recent stability?
Potentially. Columbia Threadneedle warns that if new U.S. tariffs disrupt supply chains or reduce consumer spending, it could weaken economic growth and push both the dollar and Treasury yields lower. That would be a major shift—because right now, the dollar is holding up despite high tariffs on Chinese goods. But if the pain spreads to domestic industries, the narrative could flip.
What’s the outlook for the euro and other currencies against the dollar?
MUFG Research forecasts the euro to rise to 1.2000 by Q3 2026, while the Australian dollar is expected to trade at 0.6542. These projections assume the Fed holds rates higher than markets expect, which would slow the dollar’s decline but not reverse it. Currency movements will hinge on relative growth, inflation differentials, and whether the ECB and BOE move faster than the Fed on easing.