Thoughts on FOMC and ECB meetings

John Hardy

Head of FX Strategy, Saxo Bank Group

Federal Open Market Committee meeting

Statement
Positive language on the economy across the board and they dropped the increasingly obsolete language from prior statements, suggesting that the Fed will maintain the policy rate below the neutral rate for some time.

Accompanying materials
Mostly across the board box-checking on hawkish developments in accompanying materials – all revision forecasts higher, including to rate forecast, but takeaway somewhat tempered by the fact that nearly all of these forecast adjustments, including the modest adjustment higher for the policy outlook, were for 2018.

Press conference
Opening statement was important: Governor Powell continues to underline that he wants a change of style from the previous Fed regime. His opening statement about “Plain English” is telling and his straightforward talk of a strong economy speaks for itself. Also key – and what the market apparently took very much to heart given the eventual reaction to this press conference, Powell was careful to position the holding of a press conference at every meeting as not to be a signal that they will pick up the pace of rate hikes.

My takeaway
The Fed was a bit more hawkish than the market was willing to admit – probably because the central bank did what it could to avoid setting the market’s hair on fire – doesn’t see any advantage in doing so. Rather, the Fed recognises that the economy is potentially at an overheating inflection point and is wisely doing what it can to pull away from committing itself to any certain course of action, but has now also laid the groundwork for a more rapid pace of rate hikes – by having the pressers at every meeting - if the pace of inflation heats up from here. Essentially the Fed is admitting it isn’t sure of anything, but wants to be ready to respond if necessary.

Incoming  data will take on added importance from here as the Fed will look at the same data we all look at.

If the entire US yield curve can continue to lift again, this would be the most positive scenario for USD. Would expect short rates to continue higher at minimum in the near term. Broadly, this FOMC meeting looked USD supportive.

European Central Bank meeting

The ECB meeting was a bit more dovish than the market was positioned for. The market had built up some mild hawkishness in expectations after the ECB thoroughly leaked that it was planning to roll out a schedule for the end of the asset purchase programme. It did so, and on a schedule that was no major surprise, with a taper to EUR 15 billion per month on Oct 1 and then a cessation on Dec 31 of this year, provided there are no surprises. And thoroughly offsetting the tapering and cessation schedule was a promise to keep the rate at present levels (yes with conditionality) until the summer of 2019, which saw a slight revision lower in still very far off expectations for the ECB beginning to lift rates.

On the economic outlook, Draghi sounded guardedly hopeful that the recent soft patch is a transitory affair, but is obviously erring on the side of caution and mentioned a number of downside risks. The inflation projection was revised sharply higher for 2018 and 2019 to 1.7%, no doubt due to a sharply weaker euro and sharply higher oil price, but was unchanged at 1.9% for 2020. GDP was revised down slightly for 2018 only.

President Draghi was dismissive of Italian bond yield volatility as a “local episode” and said the ECB hadn’t discussed when it would actually hike rates. 

All in all, the combination of these two meetings is USD bullish and EUR bearish and could see EURUSD quickly revisiting the 1.1500 level and significantly beyond to the downside if US long rates become unanchored and the 10-year benchmark manages to pull well back above the recent 3.1% high. 

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