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The Federal Reserve largely met the market consensus today by announcing plans to taper its QE programme by a maximum of $15bn per month until year-end while retaining optionality to adjust the pace of tapering going forward.
However, the decision to not remove the word “transitory” when describing inflation dynamics meant some of the risk of a hawkish twist to tonight’s Fed meeting was taken off the table.
This was how markets read the rate statement despite the Fed reducing its confidence in how transitory price pressures will actually be, phrasing inflation as “expected to be” transitory now. This led to the dollar being mildly offered across the G10 FX space ahead of Powell taking to the press conference.
Chart: Dollar falls following dovish rate statement and extends losses once Powell reiterates patient stance to tackling inflation
Once at the lectern, Chair Powell showed his experience by nullifying expectations, extending the theme initially displayed in the rate statement and the market reaction in doing so.
By avoiding any discussion on the future pace of QE purchases and rates completely, whether that be the Fed’s view on lift-off or current market implied rates, Powell opened the door further to give policymakers greater optionality going forward.
While this is unlikely to bring money market expectations back that much as Powell is known to sit on the dovish side of the spectrum, it is weighing on the dollar and supporting risk in FX markets.
Those pricing a more hawkish Fed in the coming months may have to wait until individual policymakers hit the wires in the coming weeks, but even then we expect hawkish members to err on the side of caution given the level of uncertainty in the economic outlook at present. The dots may show some market hawks a level of vindication once updated in December, but even so the pace of the QE taper will still be the topic to move markets given the Fed’s reluctance to suggest rates can rise while the balance sheet continues to expand.
With Powell showing little initial appetite to ramp up the pace of the taper in tonight’s press conference and explicitly highlighting that the pace can even be slowed given a material downgrade to the economic outlook, we expect the dollar to remain weak around the edges and remain under pressure from currencies where central banks have a greater sensitivity to current inflation dynamics.
Overall, this is a job well done for Powell, who has feared a repeat of the 2013 taper tantrum and has been laying the groundwork for tonight’s meeting to be as disruptive as possible for some time now.
Chart: June 2022 eurodollar future shows limited reaction to tonight’s Fed meeting as rate hikes are still priced in for when the QE programme is set to end, despite FX markets taking tonight’s meeting as dovish at the margin.
Author: Simon Harvey, Senior FX Market Analyst