…we examine the role of market uncertainty and currency risk premia in the pace and size of episodes of dollar weakness since 1991. We find that the most recent bout of U.S. dollar declines largely can be attributed to the recovery in global economic activity from the most recent recession.
The unique aspect of the approach is the use of lots of data, and balance sheet variables. Citing a paper entitled Financial Amplification of Foreign Exchange Risk Premia by Tobias Adrian, Erkko Etula and Jan J. J. Groen, they describe the approach thus:
…The risk premium measure represents the aggregation of investors’ expected dollar appreciation in excess of one-month forward rates across a multitude of U.S.-dollar-based currency pairs, and we link it to a few determining factors.
The chart below presents the U.S. dollar risk premium estimate since 2001 as well as the component of the premium associated with global economic activity. At times, there is a wedge between the overall risk premium and the global economic activity component, which represents the risk premium component associated with the funding conditions of U.S.-based financial institutions. This latter risk premium component measures the degree to which these institutions are able to expand their asset holdings (including foreign assets) beyond the level implied by their capital and deposit base by borrowing extra funds.
Figure from Bowman and Groen (2011).