As the COVID-19 pandemic drives the global economy into recession, the temptation to pursue aggressive monetary easing is growing. Already, the US Federal Reserve has pushed interest rates near zero and committed to pump trillions of dollars into the economy. The European Central Bank has also ramped up bond purchases, though Germany’s constitutional court is mounting some resistance. Like the easing that followed the 2008 financial crisis, such policies will reverberate worldwide via exchange-rate fluctuations.

On their own, major economic shocks, such as natural disasters or disease outbreaks, tend to drive up the value of the affected countries’ currencies. When the Kobe earthquake struck Japan in 1995, the yen appreciated against the US dollar, albeit not immediately. The 2011 Great Northeast Earthquake had a stronger effect, driving the yen to a historical high of ¥76 to the dollar. Exchange rates reflect relative demand for currencies in the world market. And demand depends partly on supply: if there are far more dollar assets than yen assets on the world market, the scarcer yen will gain value. 

This article seeks to better understand the impact of COVID-19 on the US Dollar and Indian Rupees, and also provide insight on how an investor can profit off these changes. 

US Dollar ($)

The economic shock of the last few months has shaken the United States economy, erased the last two and a half years of stock market gains, and has left 36.5 million Americans unemployed. Yet as the economic chaos builds, a silver lining has emerged. Frightened by uncertainty and hungry for safe assets, investors and business owners are flocking to the US dollar.

Fig 1: Euro to USD exchange rates during June 16, 2019 – June 16, 2020 period

Since the COVID-19 crisis became prevalent in US, the value of the US dollar index rose to near record highs. The greenback has leveled off slightly, but has maintained an edge relative to most major currencies. As seen in Fig 1, the US Dollar to Euro exchange rate was fluctuating about an average rate of $1.085 per € during the peak pandemic period. The fluctuation range of dollar was between $1.068 per € – $1.14 per € during the pandemic period.

Fearing a liquidity crunch, where the demand for cash significantly outstrips the supply, business owners worldwide are snapping up dollars. The consistent, global demand for the dollar, along with US treasury bonds, gives the United States real leverage. When it comes to China, for example, the strength of the dollar provides a shield for the United States, ensuring a robust market for the purchase of US treasuries, even if China attempts to sell its estimated $1.2 trillion worth of US bonds in an effort to weaken the US financial system. 

Admittedly, there are downsides to a strong dollar. Exports become more expensive, making it harder to sell American products abroad. American companies are more tempted to open factories and facilities in other countries where operations and labor are cheaper. This inevitably leads to a loss of jobs in the US. A stronger dollar also makes foreign travel to the United States less attractive. 

Considering that countries globally are looking to reopen their economy and how volatile the US dollar currently is, investors can make use of currency arbitrage opportunities to earn money. 

Indian Rupee ()

Fig 2: Euro to INR exchange rates during June 16, 2019 – June 16, 2020 period

With the growing spread of coronavirus across the Indian nation, the Rupee has seen a weakening movement against major global currencies. This drop was further accelerated after the global financial market meltdown signaled that the world is being faced by a coronavirus-led economic recession. Forex traders suggest that the Rupee depreciated compared to major trading currencies as a result of the collapse in oil prices that added to risk-off sentiment caused by relentless spread of coronavirus across the globe. 

As observed in Fig. 2, the INR to Euro exchange rate was fluctuating at an average rate of INR 83 per € during the peak pandemic period, after which it continued to rise as the Rupee got weaker. This is a 5% rise in the exchange rate since the pandemic began in India. 

A depreciating rupee means higher prices of goods and services, costlier petrol and expensive trips abroad. Indian exports essentially become cheaper but Indian imports become more expensive. Also, fewer people will want to invest in rupee-denominated assets. This will lead to a shortage of investments in government infrastructural projects and welfare schemes. On the plus side, the tourism will grow as more tourists visit India since foreign currency is worth more. Export-oriented industries will create more jobs, boosting the employment rates in these sectors.

With the growing uncertainty of the strength of the Indian Rupee, investors must look to other currencies and take advantage of the potential arbitrage opportunities between the Rupee and other stronger currencies. 

Arbitrage opportunity for volatile exchange rates

Considering how volatile the currencies have been during the COVID-19 pandemic, a simple technique through which investors can earn money is by implementing a covered currency arbitrage strategy. The covered currency arbitrage is a risk-free arbitrage that profits off of the price difference between fair value and actual value of a 12-month future contract with the help of bonds. 

In an ideal situation, if an investor puts his/her money (in currency A) into T-bill, he/she should expect to receive the same payoff as if he/she had first converted the same amount from currency A to B, then put the money (in currency B) into risk-free short-term bond and then convert the proceeds from bond back to currency A using a fair value 12-months forward contract. However, the 12-month forward contracts are usually not fairly priced (high volatility affects the pricing) and the difference in the actual and fairly valued price provides a profit yielding opportunity for the investor. 

To better understand the covered currency arbitrage process, consider the example of an investor who wants to conduct a currency arbitrage between USD and GBP. As of March 2020, the exchange rate between the two currencies was 1.30455$/£, and the interest rates of US and UK were 1.25% and 0.75% respectively. 

So the fair value price of 12-month forward is,


If the 12-month forward exchange rate is priced at $1.35 per £ (>Fair value), the investor would carry the arbitrage (dollar-to-pound) as below:

Step No. Transaction Time 0 cash flows Time t=1 year cash flows
$ £ $ £
1 Sell $ bond at 1.25% +$1.00 -$1.01258

(need to pay)

2 Convert $ to £ at $1.30455 per £ -$1.00 +0.76655 £
3 Buy £ bond at 0.75% -0.76655 £ +0.77232 £
4 Forward contract to convert £ to $ at $1.35 per £ +$1.04263 -0.77232 £
Total Cash Flow 0 0 +$0.03005 0


If the 12-month forward exchange rate is priced at $1.27 per £ (<Fair Value), the investor would arbitrage (pound-to-dollar) as below:

Step No. Transaction Time 0 cash flows Time t=1 year cash flows
$ £ $ £
1 Sell £ bond at 0.75% +1.00 £ -1.00753 £

(need to pay)

2 Convert £ to $ at $1.30455 per £ +$1.30455 -1.00 £
3 Buy $ bond at 1.25% -$1.30455 +$1.32096
4 Forward contract to convert £ to $ at $1.27 per £ -$1.32096 +1.04013 £
Total Cash Flow 0 0 0 + 0.03260 £


The key element of this arbitrage is to ensure that the currency to first sell the bond is determined by choosing the currency that gets weaker when the actual and fair price 12-month forward is compared. In the above example, when the 12 month forward was priced at $1.35 per £ (>Fair Value), the dollar is estimated to get weaker and hence, the dollar bond was first sold. Similarly, when the 12-month forward was priced at $1.27 per £, the pound was estimated to get weaker and hence, the pound bond was first sold. 

At the moment, the currency market is operating with a high awareness of risk as many variables are in play. This may mean that that there could be further volatility in the currency market, with areas most effected by the outbreak seeing further pressure on currency values. With the right investment strategy, investors can well exploit the changes in currency values to earn money.