Summing up the mood in the markets ahead of the Fed’s Wednesday interest rate decision at 2.15pm EST, Real Time Economics at the WSJ on Tuesday proclaimed: “We Know What They’ll Say, Just Not How They’ll Say It”.
Indeed, as the post noted, economists and markets appear certain that the Federal Open Market Committee will keep the fed funds rate at its current 2 per cent target, halting a months-long cycle of cuts. Two issues that remain unclear, however, are how the accompanying statement will deal with growing inflation risks, and whether there will be any dissent in the FOMC vote.
A round-up of views from investment banks and other analysts suggest that most commentators expect a more hawkish tone from the Fed, although not necessarily to the extent that it foreshadows an August rate rise. As Insight Economics summed up: “This (statement) will be the Fed’s attempt to try to manage inflation expectations without actually having to change policy”.
On the question of dissenters, however, analysts seem evenly divided - although if there are voices distinct from the pack, they’re likely to be on the hawkish side and come from the same quarters as in the most recent Fed meetings.
From Ashraf Laidi, chief forex analyst at CMC Markets, an overnight note says that markets (which widely expect the Fed to hold rates) also ascertain that the policy statement will accentuate the upside risks to inflation and inflationary expectations, while reiterating the weakness in housing, labor markets but without issuing a downside bias.
Although Fed funds futures are pricing probabilities of a tightening in 2009 and even late 2008, we expect today’s policy statement to further neutralise expectations of higher interest rates for 2008 by clarifying the ensuing macroeconomic weakness as well as the fact that markets remain under considerable stress. The fact that the S&P500 and the Dow Jones Index are 5 per cent and 8 per cent below their levels of the April 30 FOMC announcement merits prolonged cautiousness from the central bank.
Accordingly, and similar to the April 30 decision, today’s announcement is perceived to signal a firmer message that interest rates will remain unchanged, which should further shed modest losses in the US dollar, with the most likely beneficiary pairs seen AUD/USD, EUR/USD, while USD/JPY is likely to remain supported at 107.20
Fed chairman Ben Bernanke, meanwhile, has other pressing issues to address concerning his FOMC, notes the Journal in a separate report.
An impasse between Senate Democrats and the Bush administration is about to leave three vacancies on the FOMC for the first time since its existing structure was established in 1935. In the Journal’s view, that could tilt influence on the panel toward presidents of the Fed’s regional banks.
Those five presidents, unlike the seven Washington-based governors on the 12-person FOMC, aren’t appointed by the president or confirmed by the Senate. In recent months, several presidents have been garnering heightened attention as their positions have slowly grown more hawkish - placing a stronger focus on inflation over growth concerns and signaling a desire to raise interest rates. Two have regularly dissented from FOMC votes this year.
While changes in the composition of the FOMC won’t radically affect the Fed’s course in the near term, concludes the Journal, it could force Bernanke to move in a hawkish direction and “could complicate how that stance is communicated”.
Related links
Fed interest rate strategy poses risks - FT
