The dollar moved a bit lower this morning against a basket of major currencies, but the overall trend is towards range trading as markets look ahead to this week’s meeting of the Federal Reserve.
The policy meeting, which begins later today, is widely expected to result in a slight scaling back of the Fed’s monetary stimulus programme, which has seen $85 billion per month pumped into the economy via a bond-buying scheme. The quantitative easing scheme, known variously as QE3 or ‘QE Forever’ by less charitable pundits, is the third one undertaken by the Fed since the economic crisis of 2007-8.
QE3 Divides Opinion
So far, the stimulus package has been a qualified success, in that it has helped to keep America’s economy afloat during a difficult time by boosting markets and easing unemployment. However, many observers feel that it has done more harm than good, creating dangerous asset bubbles that will cause even bigger problems when the taps are turned off.
In his June investment outlook, entitled Wounded Heart, bond guru Bill Gross described the Fed’s QE policies as being similar to a bad dose of chemotherapy:
“There comes a point when no matter how much blood is being pumped through the system as it is now, with zero-based policy rates and global quantitative easing programs, that the blood itself may become anemic, oxygen-starved, or even leukemic, with white blood cells destroying more productive red cell counterparts,”
Some opponents of the programme have even gone as far as to suggest that it could cause a huge economic crash whether the taps stay on or not, most notably Republican congressman Ron Paul, who said the following in a statement directly after the announcement of QE3 in September 2012:
“For all of its vaunted policy tools, the Fed now finds itself repeating the same basic action over and over in an attempt to prime the economy with more debt and credit. But this latest decision to provide more quantitative easing will only prolong our economic stagnation, corrupt market signals, and encourage even more misallocation and malinvestment of resources. Rather than stimulating a real recovery by focusing on a strong dollar and market interest rates, the Fed’s announcement today shows a disastrous detachment from reality on the part of our central bank. Any further quantitative easing from the Fed, in whatever form, will only make our next economic crash that much more serious.”
But while not everyone shares Mr. Paul’s pessimistic – and some would say ideologically tainted – view of the situation, there is broad agreement that QE3 should not live up to its ‘QE Forever’ tag. The question now facing the Fed is not necessarily one of whether the Fed should start cutting back on its stimulus programme, but how fast it should do this.
At the time of the announcement of QE3, the Federal Open Market committee laid down its commitment to an open-ended stimulus policy that would continue for as long as necessary, issuing the following statement:
“If the outlook for the labor market does not improve substantially, the Committee will continue its purchases of agency mortgage-backed securities, undertake additional asset purchases, and employ its other policy tools as appropriate until such improvement is achieved in a context of price stability… [A] highly accommodative stance of monetary policy will remain appropriate for a considerable time after the economic recovery strengthens.”
Septaper Widely Expected
With the employment market improving this year, there is a broad consensus among policymakers that the time has come to start ‘tapering’ the bond-buying programme. Up until last week, there had been a widespread anticipation of an accelerated start to this process, but last Friday’s underwhelming Nonfarm Payroll report has tempered these expectations somewhat.
In the wake of this data release, most analysts are now predicting that the Fed will announce a modest cut of around $10 billion per month at this week’s meeting, according to a recent Reuters poll. These revised expectations, coupled with the news that frontrunner Lawrence Summers (an advocate of rapid QE3 withdrawal) had pulled out of the race to become Fed chairman, caused the dollar to slump against most major currencies, having already been on a downtrend last week amid easing concerns over the Syria crisis.
The overall trading volume on the forex market has fallen significantly this week, with investors reluctant to make new bets before the policy meeting. The dollar was down 0.1% this morning against a basket of major currencies at 81.1600, having recovered from Monday’s four-week low of 80.968.
Speaking to Reuters, Niels Christensen, currency strategist at Nordea said: “It’s all a waiting game before the Fed and currencies will be in a tight range…Yesterday the euro moved towards $1.34, but it had no momentum to move above there.”
The euro gained 0.1 percent at $1.3348, just a little short of the three-week high of $1.3385 it hit on Monday. It was boosted by solid German ZEW sentiment data, which was released this morning at 0900 GMT.
The dollar gained slightly against the yen, rising 0.1% to 99.17 yen, but looks unlikely to break the 100 yen resistance level before any announcement from the Fed. The dollar/yen pairing is likely to be strongly affected by the Fed’s forecast of interest rates in 2016, which will also be announced at the meeting.