Federal Reserve's surprise move hurts dollar
19/03/09 15:06
The dollar was hurt overnight as the market continued
to react to yesterday's surprise move by the Federal
Reserve, forcing adjustments in positioning. Debate
on the precise nature of the Fed's actions will rage
on but the immediate perception of balance sheet
expansion and quantitative easing in a broader sense
is forcing the greenback lower for the time being.
Risk sentiment overnight was quite buoyant, as major
European indices are higher, clearly boosted by Wall
Street's strong gains. The dollar was under pressure
throughout the session, trading in a 1.3416-1.3535
range against the euro, and USDJPY traded in the
range 95.27-96.62.
In yesterday's decision, the FOMC left the Fed Funds
target range unchanged and said it would increase
purchases of agency mortgage-backed securities and
agency debt and also purchase up to $300bn of
longer-term Treasurys. In addition to the asset
purchases, the Fed said the range of eligible
collateral for the newly launched Term Asset-Backed
Securities Loan Facility (TALF) will likely be
expanded. There is an element of QE in so far as the
quantity of money has increased, which has helped
ease monetary conditions. But the money supply has
increased more as a by product of the various credit
programs rather than an explicit and prolonged focus
on increased money supply The Fed's latest actions
should encourage private lending while keeping real
yields in check. As economists have noted, "Semantics
matter a lot here, with expectations (as the
secondary policy objective) the distinguishing
characteristic.
The point with quantitative easing is that it is a very special form of liquidity injection which aims to alter expectations and (per Japan) has permanence about it." It is important to note that the Fed's statement made no mention of money supply and its deliberations so far have focused almost solely on the need to lower the costs of credit. This stands in contrast to the monetary policy statements seen elsewhere in recent weeks. The BoE specifically demanded an increase in money supply, while the need to avoid deflation has been clearly signalled by several G10 central banks. While the dollar is poised to weaken in the near-term, we look to fade the recent sell-off. The declining demand for safe haven currencies is eroding the dollar's current risk premium and concerns of quantitative easing and debt monetisation following the FOMC announcement helped spur broad-based dollar weakness. But we look for further dollar support as the ECB may be forced to alter its rhetoric sharply in the coming days, even though this is not of their volition. Current market expectations of gradual easing by the ECB are no longer relevant and the sharp adjustment in policy expectations in the coming days will likely hurt the EUR.
EUR Governing council members have yet to comment on the Fed's move, or any other recent central bank decision for that matter. Nevertheless, with three of the Eurozone's biggest trading partners now openly pursuing aggressive forms of balance sheet expansion, and in the case of Switzerland, outright FX intervention, the EUR's effective exchange rate has moved sharply higher. This is a form of monetary tightening that is difficult for the Eurozone to countenance and the ECB will be frustrated that this has been thrust upon the currency union. However, the other side of the argument is that the ECB has put itself in this situation because it has refused to synchronise monetary policy within the G10, arguably at a time when a strong level of coordination is necessary. Regardless, some tough choices are necessary for the ECB as currently monetary policy is no longer sustainable in a recessionary environment. The market will need to be on the look out for a reversal in policy and the result of the April monetary policy decision is now in the balance. As such, we express a very cautious view on the EUR and look to fade its short-term gains.
Canadian CPI showed a surprising increase to 1.4% y/y (cons. 1.0%, prev. 1.1%). The BoC core CPI also came in higher than expected at 1.9% y/y (cons. 1.5%), although was unchanged from the previous month. The BoC has said the official rate can be expected to remain at low levels until they see signs that excess supply in the economy is being taken up and total CPI returns to 2%. Though the CAD has benefited from recent boosts in risk-seeking sentiment, the Canadian economy overall continues to weaken as global financial sectors remain unstable. We maintain our 3m USDCAD forecast of 1.35
BoJ Governor Masaaki Shirakawa stressed overnight that the BoJ's increase in JGB purchases was not aimed at financing government debt, nor aimed at bond yields. However, this directly contradicts Finance Minister Yosano's comments, as he welcomed the BoJ's move and said "it will clearly curb a rise in long-term interest rates". The BoJ is clearly trying to avoid accusations that it was repeating past procedures where government spending was being underwritten by the central bank. With debt levels already bourgeoning and the government trying to push through a new supplementary budget, this perception is hard to shake and the BoJ will also need to defend its credibility. The bank has been reluctant to pursue outright quantitative easing because of the mixed results during the previous downturn, and it remains to be seen if the Fed's move will force a shift in policy.
RBA Assistant Governor Edey said that Australia has more scope that most to respond to the ongoing global downturn, inline with the RBA minutes to the March meeting. The RBA had indicated that it saw grounds both for keeping rates on hold and cutting rates. Edey said it would not be possible for Australia to avoid further weakness in the current environment and while more rate cuts are possible, a relatively sounder banking sector and fiscal and monetary stimulus, coupled with strong Chinese investment inflows, should help AUD hold its value over the medium term. As such we target AUDUSD at 0.65 over 3 months and 0.75 over 12 months.
FOMC Statement March 18, 2009
Information received since the Federal Open Market Committee met in January indicates that the economy continues to contract. Job losses, declining equity and housing wealth, and tight credit conditions have weighed on consumer sentiment and spending. Weaker sales prospects and difficulties in obtaining credit have led businesses to cut back on inventories and fixed investment. U.S. exports have slumped as a number of major trading partners have also fallen into recession. Although the near-term economic outlook is weak, the Committee anticipates that policy actions to stabilize financial markets and institutions, together with fiscal and monetary stimulus, will contribute to a gradual resumption of sustainable economic growth.
In light of increasing economic slack here and abroad, the Committee expects that inflation will remain subdued. Moreover, the Committee sees some risk that inflation could persist for a time below rates that best foster economic growth and price stability in the longer term.
In these circumstances, the Federal Reserve will employ all available tools to promote economic recovery and to preserve price stability. The Committee will maintain the target range for the federal funds rate at 0 to 1/4 percent and anticipates that economic conditions are likely to warrant exceptionally low levels of the federal funds rate for an extended period. To provide greater support to mortgage lending and housing markets, the Committee decided today to increase the size of the Federal Reserve’s balance sheet further by purchasing up to an additional $750 billion of agency mortgage-backed securities, bringing its total purchases of these securities to up to $1.25 trillion this year, and to increase its purchases of agency debt this year by up to $100 billion to a total of up to $200 billion. Moreover, to help improve conditions in private credit markets, the Committee decided to purchase up to $300 billion of longer-term Treasury securities over the next six months. The Federal Reserve has launched the Term Asset-Backed Securities Loan Facility to facilitate the extension of credit to households and small businesses and anticipates that the range of eligible collateral for this facility is likely to be expanded to include other financial assets. The Committee will continue to carefully monitor the size and composition of the Federal Reserve's balance sheet in light of evolving financial and economic developments
Voting for the FOMC monetary policy action were: Ben S. Bernanke, Chairman; William C. Dudley, Vice Chairman; Elizabeth A. Duke; Charles L. Evans; Donald L. Kohn; Jeffrey M. Lacker; Dennis P. Lockhart; Daniel K. Tarullo; Kevin M. Warsh; and Janet L. Yellen.
FOMC Statement January 28, 2009
The Federal Open Market Committee decided today to keep its target range for the federal funds rate at 0 to 1/4 percent. The Committee continues to anticipate that economic conditions are likely to warrant exceptionally low levels of the federal funds rate for some time.
Information received since the Committee met in December suggests that the economy has weakened further. Industrial production, housing starts, and employment have continued to decline steeply, as consumers and businesses have cut back spending. Furthermore, global demand appears to be slowing significantly. Conditions in some financial markets have improved, in part reflecting government efforts to provide liquidity and strengthen financial institutions; nevertheless, credit conditions for households and firms remain extremely tight. The Committee anticipates that a gradual recovery in economic activity will begin later this year, but the downside risks to that outlook are significant.
In light of the declines in the prices of energy and other commodities in recent months and the prospects for considerable economic slack, the Committee expects that inflation pressures will remain subdued in coming quarters. Moreover, the Committee sees some risk that inflation could persist for a time below rates that best foster economic growth and price stability in the longer term.
The Federal Reserve will employ all available tools to promote the resumption of sustainable economic growth and to preserve price stability. The focus of the Committee's policy is to support the functioning of financial markets and stimulate the economy through open market operations and other measures that are likely to keep the size of the Federal Reserve's balance sheet at a high level. The Federal Reserve continues to purchase large quantities of agency debt and mortgage-backed securities to provide support to the mortgage and housing markets, and it stands ready to expand the quantity of such purchases and the duration of the purchase program as conditions warrant. The Committee also is prepared to purchase longer-term Treasury securities if evolving circumstances indicate that such transactions would be particularly effective in improving conditions in private credit markets. The Federal Reserve will be implementing the Term Asset-Backed Securities Loan Facility to facilitate the extension of credit to households and small businesses. The Committee will continue to monitor carefully the size and composition of the Federal Reserve's balance sheet in light of evolving financial market developments and to assess whether expansions of or modifications to lending facilities would serve to further support credit markets and economic activity and help to preserve price stability.
Voting for the FOMC monetary policy action were: Ben S. Bernanke, Chairman; William C. Dudley, Vice Chairman; Elizabeth A. Duke; Charles L. Evans; Donald L. Kohn; Dennis P. Lockhart; Kevin M. Warsh; and Janet L. Yellen. Voting against was Jeffrey M. Lacker, who preferred to expand the monetary base at this time by purchasing U.S. Treasury securities rather than through targeted credit programs.
Source: UBS, Bloomberg, Federal Reserve.
The point with quantitative easing is that it is a very special form of liquidity injection which aims to alter expectations and (per Japan) has permanence about it." It is important to note that the Fed's statement made no mention of money supply and its deliberations so far have focused almost solely on the need to lower the costs of credit. This stands in contrast to the monetary policy statements seen elsewhere in recent weeks. The BoE specifically demanded an increase in money supply, while the need to avoid deflation has been clearly signalled by several G10 central banks. While the dollar is poised to weaken in the near-term, we look to fade the recent sell-off. The declining demand for safe haven currencies is eroding the dollar's current risk premium and concerns of quantitative easing and debt monetisation following the FOMC announcement helped spur broad-based dollar weakness. But we look for further dollar support as the ECB may be forced to alter its rhetoric sharply in the coming days, even though this is not of their volition. Current market expectations of gradual easing by the ECB are no longer relevant and the sharp adjustment in policy expectations in the coming days will likely hurt the EUR.
EUR Governing council members have yet to comment on the Fed's move, or any other recent central bank decision for that matter. Nevertheless, with three of the Eurozone's biggest trading partners now openly pursuing aggressive forms of balance sheet expansion, and in the case of Switzerland, outright FX intervention, the EUR's effective exchange rate has moved sharply higher. This is a form of monetary tightening that is difficult for the Eurozone to countenance and the ECB will be frustrated that this has been thrust upon the currency union. However, the other side of the argument is that the ECB has put itself in this situation because it has refused to synchronise monetary policy within the G10, arguably at a time when a strong level of coordination is necessary. Regardless, some tough choices are necessary for the ECB as currently monetary policy is no longer sustainable in a recessionary environment. The market will need to be on the look out for a reversal in policy and the result of the April monetary policy decision is now in the balance. As such, we express a very cautious view on the EUR and look to fade its short-term gains.
Canadian CPI showed a surprising increase to 1.4% y/y (cons. 1.0%, prev. 1.1%). The BoC core CPI also came in higher than expected at 1.9% y/y (cons. 1.5%), although was unchanged from the previous month. The BoC has said the official rate can be expected to remain at low levels until they see signs that excess supply in the economy is being taken up and total CPI returns to 2%. Though the CAD has benefited from recent boosts in risk-seeking sentiment, the Canadian economy overall continues to weaken as global financial sectors remain unstable. We maintain our 3m USDCAD forecast of 1.35
BoJ Governor Masaaki Shirakawa stressed overnight that the BoJ's increase in JGB purchases was not aimed at financing government debt, nor aimed at bond yields. However, this directly contradicts Finance Minister Yosano's comments, as he welcomed the BoJ's move and said "it will clearly curb a rise in long-term interest rates". The BoJ is clearly trying to avoid accusations that it was repeating past procedures where government spending was being underwritten by the central bank. With debt levels already bourgeoning and the government trying to push through a new supplementary budget, this perception is hard to shake and the BoJ will also need to defend its credibility. The bank has been reluctant to pursue outright quantitative easing because of the mixed results during the previous downturn, and it remains to be seen if the Fed's move will force a shift in policy.
RBA Assistant Governor Edey said that Australia has more scope that most to respond to the ongoing global downturn, inline with the RBA minutes to the March meeting. The RBA had indicated that it saw grounds both for keeping rates on hold and cutting rates. Edey said it would not be possible for Australia to avoid further weakness in the current environment and while more rate cuts are possible, a relatively sounder banking sector and fiscal and monetary stimulus, coupled with strong Chinese investment inflows, should help AUD hold its value over the medium term. As such we target AUDUSD at 0.65 over 3 months and 0.75 over 12 months.
FOMC Statement March 18, 2009
Information received since the Federal Open Market Committee met in January indicates that the economy continues to contract. Job losses, declining equity and housing wealth, and tight credit conditions have weighed on consumer sentiment and spending. Weaker sales prospects and difficulties in obtaining credit have led businesses to cut back on inventories and fixed investment. U.S. exports have slumped as a number of major trading partners have also fallen into recession. Although the near-term economic outlook is weak, the Committee anticipates that policy actions to stabilize financial markets and institutions, together with fiscal and monetary stimulus, will contribute to a gradual resumption of sustainable economic growth.
In light of increasing economic slack here and abroad, the Committee expects that inflation will remain subdued. Moreover, the Committee sees some risk that inflation could persist for a time below rates that best foster economic growth and price stability in the longer term.
In these circumstances, the Federal Reserve will employ all available tools to promote economic recovery and to preserve price stability. The Committee will maintain the target range for the federal funds rate at 0 to 1/4 percent and anticipates that economic conditions are likely to warrant exceptionally low levels of the federal funds rate for an extended period. To provide greater support to mortgage lending and housing markets, the Committee decided today to increase the size of the Federal Reserve’s balance sheet further by purchasing up to an additional $750 billion of agency mortgage-backed securities, bringing its total purchases of these securities to up to $1.25 trillion this year, and to increase its purchases of agency debt this year by up to $100 billion to a total of up to $200 billion. Moreover, to help improve conditions in private credit markets, the Committee decided to purchase up to $300 billion of longer-term Treasury securities over the next six months. The Federal Reserve has launched the Term Asset-Backed Securities Loan Facility to facilitate the extension of credit to households and small businesses and anticipates that the range of eligible collateral for this facility is likely to be expanded to include other financial assets. The Committee will continue to carefully monitor the size and composition of the Federal Reserve's balance sheet in light of evolving financial and economic developments
Voting for the FOMC monetary policy action were: Ben S. Bernanke, Chairman; William C. Dudley, Vice Chairman; Elizabeth A. Duke; Charles L. Evans; Donald L. Kohn; Jeffrey M. Lacker; Dennis P. Lockhart; Daniel K. Tarullo; Kevin M. Warsh; and Janet L. Yellen.
FOMC Statement January 28, 2009
The Federal Open Market Committee decided today to keep its target range for the federal funds rate at 0 to 1/4 percent. The Committee continues to anticipate that economic conditions are likely to warrant exceptionally low levels of the federal funds rate for some time.
Information received since the Committee met in December suggests that the economy has weakened further. Industrial production, housing starts, and employment have continued to decline steeply, as consumers and businesses have cut back spending. Furthermore, global demand appears to be slowing significantly. Conditions in some financial markets have improved, in part reflecting government efforts to provide liquidity and strengthen financial institutions; nevertheless, credit conditions for households and firms remain extremely tight. The Committee anticipates that a gradual recovery in economic activity will begin later this year, but the downside risks to that outlook are significant.
In light of the declines in the prices of energy and other commodities in recent months and the prospects for considerable economic slack, the Committee expects that inflation pressures will remain subdued in coming quarters. Moreover, the Committee sees some risk that inflation could persist for a time below rates that best foster economic growth and price stability in the longer term.
The Federal Reserve will employ all available tools to promote the resumption of sustainable economic growth and to preserve price stability. The focus of the Committee's policy is to support the functioning of financial markets and stimulate the economy through open market operations and other measures that are likely to keep the size of the Federal Reserve's balance sheet at a high level. The Federal Reserve continues to purchase large quantities of agency debt and mortgage-backed securities to provide support to the mortgage and housing markets, and it stands ready to expand the quantity of such purchases and the duration of the purchase program as conditions warrant. The Committee also is prepared to purchase longer-term Treasury securities if evolving circumstances indicate that such transactions would be particularly effective in improving conditions in private credit markets. The Federal Reserve will be implementing the Term Asset-Backed Securities Loan Facility to facilitate the extension of credit to households and small businesses. The Committee will continue to monitor carefully the size and composition of the Federal Reserve's balance sheet in light of evolving financial market developments and to assess whether expansions of or modifications to lending facilities would serve to further support credit markets and economic activity and help to preserve price stability.
Voting for the FOMC monetary policy action were: Ben S. Bernanke, Chairman; William C. Dudley, Vice Chairman; Elizabeth A. Duke; Charles L. Evans; Donald L. Kohn; Dennis P. Lockhart; Kevin M. Warsh; and Janet L. Yellen. Voting against was Jeffrey M. Lacker, who preferred to expand the monetary base at this time by purchasing U.S. Treasury securities rather than through targeted credit programs.
Source: UBS, Bloomberg, Federal Reserve.