St. Louis Federal Reserve Bank President James Bullard, a supposed hawk, has been bullying the ‘single’ currency bears into temporary submission ahead of today’s Federal Open Market Committee (FOMC) meeting minutes or at least he should be held responsible for getting the ball rolling. Yesterday, he suggested that the most appropriate policy for the U.S. Federal Reserve is to continue the current QE3 (quantitative easing, third round) policy. Dovish comments from the voting hawk has put the mighty dollar under pressure, while catching the market off-guard, when he mentioned adjusting the pace of purchases in view of incoming data on economic performance, employment, and inflation.
The only thing that Bullard purposely refused to acknowledge yesterday was when the Fed might be tapering off its purchases. He went on to say that like Japan, Europe risks an “extended period of low growth and deflation unless the European Central Bank (ECB) acts with an aggressive quantitative easing program.” To date, the ECB has been lending banks “unlimited funds” for up to three years and it pledged to buy bonds of countries engaged in economic adjustment plans — Eurozone policymakers have never committed themselves to wholehearted bond-buying, unlike the Bank of Japan (BoJ) which maintained its asset purchase (AP) plan, and without any mention of the recent rise in Japanese Government Bond (JGB) yields in its monetary policy statement.
Japanese policy officials acknowledged the rise in inflation expectations in its post-meeting statement and argued that a “high degree of uncertainty about the economic outlook remained” – hence maintaining its current AP plans. Importantly, with policy members not mentioning higher JGB yields, it implies that they are somewhat comfortable with the market pricing in future “inflation expectations.” Overall, the market took away a “dovish statement” and a central bank having no immediate intent to “move away from easing rapidly upon indicators of inflation improving.”
FOMC, Bernanke Testimony in the Spotlight
Some investors are anticipating that the release of this afternoon’s FOMC minutes will indicate that both the Fed’s ‘hawks and doves’ are beginning to become “increasingly uncomfortable with the current $85 billion a month asset purchase pace.” The possibility of perhaps varying the monthly QE sizes may reduce the potential for an “outsized market reaction to any given adjustment.” Ideally, it seems that investors are looking for confirmation of the expectations that the Fed is considering a reduction in asset purchases – the primary reason of late for the mighty dollar‘s strength specifically against the antipodean currencies and the yen.
The foreign exchange (forex) market will focus on the FOMC minutes and on Fed Chairman Ben Bernanke’s testimony before Congress, looking for confirmation of the expectations that the Fed is considering a reduction in asset purchases. There is the potential for disappointment (especially from “Helicopter” Ben’s testimony) as the man himself might highlight the “mixed tone of recent data, split between improving employment and rising risk of disinflation.” Under this scenario, the greenback may find it difficult to find immediate local support.
For the rates specialists in fixed income, they will be focusing firmly on whether there are any hints of “what criteria would trigger an adjustment to asset purchases, and how serious the discussion around adjusting purchases were at this month’s meeting”. A plethora of Fed speakers have already sounded off this week, expressing their willingness to emphasize a “desire to maintain flexibility, particularly until the labor market data for this month becomes available.”
Anyone hoping that Bernanke will talk about tapering may become more frustrated by day’s end. Helicopter Ben is due to leave office at the end of the calendar year and like most rational individuals he will not want to upset the “applecart” or his legacy. The predominate reason behind the QE scale back is a market that is somewhat pinning its hopes on regional Fed governors’ rhetoric. In the real world, these individuals have little power to influence FOMC decisions or better jobs data. However, the employment argument should be seen as a moot one. The U.S. unemployment rate at +7.5% is still too high for Bernanke and his cohorts.
Soft U.K. Data Fires up Forex Market
The forex market was expected to be relatively calm until the FOMC and Bernanke showed their hands later this afternoon. Not so, sterling and U.K. gilts have borne the brunt of this market’s frustration after reported weaker U.K. data rather than the Bank of England’s (BoE) May minutes. GBP has been forced to retreat below its April 4th low after a softer-than-expected U.K. retail sales report that experienced a -1.4%, month-over-month, drop excluding fuel. The weather was somewhat to blame and so too was food sales, falling an aggressive -4.1% on the month. The BoE minutes showed very little in terms of new information. Yesterday’s U.K. inflation report provided much more detail on the BoE’s current way of thinking, more so than today’s minutes release. The weaker retail sales headline cannot be considered a slam-dunk for more QE, as the report has been very volatile of late.
Outgoing governor of the BoE, Mervyn King, has maintained his stance that the U.K. economy would benefit from more stimuli. Again this morning, he was in the minority, 3-6, seeking to extend the central bank’s £375 billion AP program by another £25 billion. The committee voted 9-0 to keep the overnight benchmark interest rate at +0.5%. The majority believes current monetary policy remains “exceptionally accommodative.”
