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Will Hawkish Fed Help The Dollar?

Last updated 10/12/2009 3:32 AM ET (GMT -5) 3 Comments

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Boris Schlossberg

Director of Currency Research, GFT

For the second time in the past two days Fed officials have assumed a more hawkish posture with respect to monetary policy  in a clear  attempt to strengthen the dollar. In a presentation to an economics conference, St. Louis Federal Reserve President James Bullard warned that inflation pressures in the US economy may be greater than the market believes. Speaking in front of the meeting of the National Association of Business Economics, Mr. Bullard staid, “I am concerned about a popular narrative in use today ... that the output gap must be large since the recession is so severe ... [and] any medium-term inflation threat is negligible, even in the face of extraordinarily accommodative monetary policy. I think this narrative overplays the output-gap story."

Coming only 48 hours after Chairman’s Bernanke’s remarks that US will consider lifting its accommodative monetary policy, as conditions improve, Mr. Bullard comments served to reinforce the Fed’s new found  hawkish stance.   The rhetoric from US monetary  officials is clearly meant to curtail the downdraft in the dollar rather than express any budding concern about inflation. US inflation pressures remain muted with this Thursday’s CPI numbers projected to rise a paltry 0.1% on a month over month basis. Furthermore, inflation pressures in G-3 remain well contained as well. Tonight’ s German WPI data which printed at -0.2% vs. 0.2% suggests that deflationary rather than inflationary  forces continue to persist despite some a pickup in economic activity in the Eurozone.

In short inflation appears to be a convenient excuse for Fed officials to jawbone the dollar in the absence of any policy actions. With few tools left at their disposal, US monetary authorities have resorted to rhetoric as their prime method of slowing down the buck’s descent.

Bullrad’s  hawkish comments helped the dollar to start the week on a bullish note as it gained ground against the majors across the board, but any sustainable rally in the greenback will depend on further upside surprises from the US  economic calendar, especially  US Retail Sales due this Wednesday at 12:30 GMT. The dollar will begin to strengthen only if the market becomes convinced that the Fed will remove the ultra accommodative policy currently in place which in turn is completely contingent on some material improvement in US economic activity as the year comes to a close.

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Comments (3)

Swapinfutures

October 12, 2009 at 12:43 PM ET

The current Federal Funds rate for the U.S. Fed is 0 - .25%, with the cash rate usually coming in at about .15%. When the federal reserve moves away from its accommodating monetary policy, do you believe we will see an initial move toward the upper end of the current range (so to .25) or right to 50 basis points? Looking at the federal fund contracts for the various expiration months, February has forecast a rate of .27%. Any thoughts?

A New Era Begins

October 13, 2009 at 01:54 AM ET

When you refer to the appreciation of the dollar after Retail Sales, do you mean it will immediately strengthen? It seems to me that if the numbers are bad the dollar will appreciate as money flows to the safety of the dollar. What you're saying is that even IF the numbers are good the dollar will still appreciate because the expectation of a rate hike by the fed is imminent as evidenced by the Fed's recent requirement of economic growth before the "tightening".

It looks like they've set a bear trap for all those negative on the dollar..... what do you think?

bschlossberg

October 13, 2009 at 07:23 AM ET

Dollar's primary weakness is as the funding currency for the carry trade, the moment the market thinks that the Fed could consider tightening the riskon/risk off dynamic will diminish and that can only happen if the consumer comes back. thus retail sales is important

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About The Author

Boris Schlossberg began his Wall Street trading career more than 20 years ago at Drexel Burhnam Lambert. There, he traded nearly every type of financial product on the market in the U.S., from equities and options to stock index futures and foreign exchange. His innate ability to analyze market information and use it to trade has helped him become an industry-recognized, “go to” trading professional.

These days, whenever the markets move, many organizations turn to Schlossberg for his take on the situation. He is a weekly contributor to CNBC's Squawk Box and a regular commentator for Bloomberg radio and television. His daily currency research is widely quoted by Reuters, Dow Jones and Agence France Presse newswires and appears in numerous newspapers worldwide. Schlossberg has written for publications like SFO magazine, Active Trader and Technical Analysis of Stocks and Commodities. He is also the author of Technical Analysis of the Currency Market and the co-author of Millionaire Traders: How Everyday People Are Beating Wall Street at Its Own Game with Kathy Lien. He joined GFT in 2008.