FX Update: Fed dovish, but not dovish enough for this market

Risk appetite has so far taken a “sell the fact” approach to last night’s FOMC meeting, which ironically was rather dovish and saw long-end treasuries leaping higher as the Fed simply promised to continue QE at the current pace and dropped its forecasts for the policy to zero through 2022. No mention was made of yield-curve-control, perhaps as the Fed would like to get a sense of how things are shaping up before establishing a stickier policy framework.

As an aside, yield curve control policy only becomes necessary when:

1. long rates drop too low as Japan felt was the case back in 2016 when 10-year rates dropped even below the -10 bps policy rate, as an inverted curve kills credit creation. With significant recent steepening in the US yield curve, this is not the Fed’s problem.
2. Long rates threaten to rise too aggressively and act as a headwind on credit creation and make the load of interest payments on newly rolled debt act as a brake on the economy. Specifically, one factor that could prompt longer rates to rise could be excessive fiscal stimulus/money creation by the government that eventually drives inflation. While we are currently registering very low inflation due to the demand shock from this crisis, this is the most likely eventual reason for the Fed to have to act to suppress rates at the long end of the yield curve – at least out to five years, but possibly farther out the curve (like after WWII, when price controls were set to be lifted and the at the time non-independent Fed was told to cap 20-year yields below 2.5% until well after inflationary pressures had eased. The Fed gained back its independence in 1951 . With current very low rates, there wouldn’t seem to be any rush to cap rates. The Fed can, of course, signal yield-curve-control well ahead of the fact as a way to greenlight fiscal stimulus of a new magnitude.

So in continuing with a historically aggressive pace of QE – even if much slower than the panic level in March to early May – the Fed reassures the market that it will continue to support the market with liquidity for now and will have to in order to finance current and future deficits as long as the economy requires such large scale support (effectively, we are already in an MMT-style regime, just an undeclared one and one that hasn’t abandoned the pretense of issuing treasury debt)

Please have a listen to today’s Saxo Market Call podcast, where we take a look at the FOMC meeting and reaction, pull out interesting evidence of recent speculative froth and discuss the money quote from the FOMC meeting that was pulled out by John Authers in his latest column.

Chart: AUDUSD
AUDUSD could finally be set for a more determined consolidation after never seeing any notable consolidation all the way up from below 0.6000. The first read of note is perhaps the 0.6800-0.6750 area, depending on where one draws the starting point for the latest up-wave (we choose the 0.6250 area pivot), but the more important levels start around 0.6675 – an obvious line of resistance on the way up and near the 200-day moving average. To get below that level, we probably need to see a far more significant consolidation settling in across asset markets than anything we have seen since late March.