On Friday, we had an opportunity to hear some Federal Reserve speakers expand on their analysis of the US economy and outline their approach to policy recommendations. Unfortunately, it appears that the perceived rift in policy views is actually a rather accurate characterisation of the internal dynamic of the Federal Open Market Committee.
There seem to be two distinct schools of thought at work within the group. The first contingent takes their cue from the inverted yield curve—yield of long-dated US government bonds is less than short-dated bonds—a historically accurate predictor of recession and ‘aren’t interested in testing anyone’s theory about this time is different’. They evoke a strong commitment to defending the current economic expansion and would rather act on the side of caution.
The second group look at an altogether different set of market signals in their deliberations—asset prices. They begin by recognising a relatively robust domestic economy, then speculate that monetary policy isn’t the correct policy tool to correct any deceleration in global growth, and finally caution that asset prices are near bubble territory. This lot is focused on good governance, fearful that the central bank will over-extend itself in the absence of sensible fiscal policy. They are also cautious of untenable asset prices, which could lead to abrupt asset price corrections, a quintessential trigger of recessions. Despite the vast departure in views, the policy outcome is likely to remain middle-of-the-road, as the voting oscillates between the prevailing of the two competing camps.
Bottom line: While the US domestic picture remains on track, the hawkish, bubble-averse contingent will continue to slow the pace of rate cuts, despite broader global growth fears. The expectation of three 25bp cuts over the remaining three Fed meeting this year strikes us as too optimistic, given the underlying divergence of policy views.
Yesterday, the pair fell from monthly highs set last week as London trading closed for a UK bank holiday. Sterling’s strength on Tuesday’s trading open pushed the pair back towards August highs of 1.23 as the Labour Party stepped up efforts to stop a no-deal Brexit.
Recent Sterling strength has lifted the pair to August highs and now trades back above 1.10 on optimism that a no-deal Brexit might be blocked. The Pound Index is now less than 1.0% away from its 200-daily moving average and is likely to hit resistance at this level.
At the end of last week, Dollar weakness lifted EUR/USD back over 1.11 having failed to maintain above this level multiple times last week. In yesterday’s trading, the pair hit resistance at 1.1165 and is back trading around the 1.1100 level.
All content is written by the Global Reach Trading Desk. The opinions expressed are not the view of Global Reach Group and are not intended as investment advice.