Big Week Is Off To A Slow Start

The US dollar is narrowly mixed to start what could be a pivotal week. The week of two parts: before and after the FOMC meeting. Before the meeting we expect broad consolidation, with a modest downside bias in the dollar, as some of the late longs (established after the August 24 frenzied sell-off) get shaken out by either the loss of momentum or lack of conviction that the Fed will hike this week.

A Bloomberg poll found 49 of 90 economists surveyed still expect a hike this week. However, as we have noted, the pricing of various market instruments suggest that market participants see a considerably lower risk.  

A Fed hike was expected to have been accompanied by dovish reassurance that the normalization would be gradual, and the peak in the Fed funds rate would be well below the past peak. And the opposite may also be true. If the Fed does not raise rates, official spin may be more hawkish.

Yellen may stress that a rate hike this year is still the most likely scenario. Outside of giving up on the possibility of two hikes this year, the FOMC’s dot plots may not show much a change in the fundamental assessment. True to its seemingly systematic bias, the Fed appears to be underestimating decline in the unemployment rate, but overestimating the increase in price pressures.  

Another important point that the Fed’s leadership has emphasized is that a rate hike is not going to produce tight monetary conditions. Rather monetary policy will shift from being extremely ease to just very easy.  

The Australian dollar is the strongest of the major currencies today, gaining about 0.4% against the US dollar. The market has shrugged off the latest political developments. Australia’s Prime Minister Abbott is facing a last minute leadership challenge later today by former Communications Minister Turnbull. This is the second leadership challenge this year. In February, Abbott pleaded fro six months to turn the economic situation around. A national election will be held next year, and polls show the Abbott’s Liberal Party losing handily.