�� The Dollar Funding Squeeze — A Key Signal From Global Markets

Escalating tensions in West Asia have triggered a classic global dash for dollars, a dynamic that is now clearly visible in cross-currency funding markets. ��

Cross-currency basis swaps versus the euro, Swiss franc and pound have turned sharply more negative, indicating that non-US investors are paying an increasing premium to borrow dollars via FX swaps rather than in their domestic currencies.

This widening basis is typically a textbook signal of tightening offshore USD funding conditions, reflecting elevated demand for dollar liquidity from global banks, asset managers and corporates.

At the same time, the US dollar has strengthened sharply, with broad dollar indices registering their strongest gains in months as investors move toward USD cash and short-dated Treasuries as safe-haven assets.

⚡️ Why West Asia tensions matter for the dollar

West Asia is systemically critical for global energy markets. Any disruption risk pushes oil and energy prices higher, which creates a terms-of-trade shock for large importers such as Europe, India and much of Asia.

Higher energy prices and rising geopolitical uncertainty typically trigger:

• Portfolio outflows from emerging markets
• Increased demand for USD-denominated safe assets
• Hedging demand from corporates with dollar liabilities

When these forces occur simultaneously, global investors rush to secure dollar funding through FX swap markets, causing the cross-currency basis to widen sharply.

�� The cross-currency basis — the market’s early warning signal

A more negative EUR/USD, GBP/USD or CHF/USD basis usually signals:

• Scarcity of offshore USD funding
• Rising liquidity and counterparty premia
• A strong preference to hold dollars despite higher borrowing costs

Historically, similar patterns were observed during the Global Financial Crisis, the Eurozone debt crisis, and the early-2020 Covid shock, often prompting central banks to activate USD liquidity swap lines to stabilize funding markets.

�� The geopolitical framework shaping markets

From a geopolitical perspective, the current conflict appears to be evolving along two competing strategic objectives.

The US–Israel axis appears focused on weakening the IRGC’s strategic influence in Iran, potentially through a phased framework:

1️⃣ Phase 1: Elimination and sanitisation of military infrastructure and command networks
2️⃣ Phase 2: Formation of an interim governing framework
3️⃣ Phase 3: Elections leading to a permanent political structure

However, the success of later phases depends critically on the success of Phase 1.

On the other side, the IRGC’s strategy appears aimed at prolonging the conflict, particularly by threatening disruptions to critical energy and shipping routes such as the Strait of Hormuz and the Red Sea.

A prolonged conflict increases global economic pressure and could potentially force international powers to push for negotiations, allowing the IRGC to survive in some form within Iran’s political structure.

�� Market implications

The liquidity stress visible in cross-currency basis swaps has already triggered a broad liquidation across global risk assets, including metals.

However, we view these moves primarily as liquidity-driven corrections rather than structural trend reversals.

In periods of sudden global dollar demand, investors often sell liquid assets first, which temporarily pressures commodities and risk assets.

For long-term investors, these phases historically create accumulation opportunities rather than structural bearish trends.

���� Implications for India

For India, the transmission channels are relatively clear:

• Higher oil prices increase the import bill
• Global risk aversion can pressure emerging market currencies
• Broad USD strength may keep USD/INR biased higher

The RBI is likely to actively manage volatility through FX reserves and liquidity operations if pressures intensify.