Fed Preview: Transitory Or Not Transitory? This Is The Question

Is inflation still transitory? This is the main question that markets will want to hear an answer to in the upcoming Fed decision on July 26th. 

The FOMC convenes in one of its “in between” meetings. The meetings in June and in September consist of new forecasts and a press conference by Fed Chair Janet Yellen. In addition, the end of August features the Jackson Hole Symposium in which Yellen may provide hints towards future policy moves.

Yet in this July meeting, the main goal will probably be not to rock the boat, a wait and see mode. No changes are likely to the interest rate nor are any other announcements on the cards.

Back in June, the Fed raised rates as widely expected, and also sounded quite upbeat. They were pleased with the ongoing growth in jobs and the steady state of the economy and began talking about reducing the balance sheet.

And what about inflation? The Fed’s favorite measure of inflation, the core PCE Price Index, dropped from a peak of 1.8% to 1.4% in recent months. They described it as transitory. Yellen went on to single out prescription drugs and wireless charges as one-off items.

Is this really the case? Since then, inflation data remain low and also wages, a driver of core inflation, haven’t risen too much. In her recent testimony, she sounded somewhat more cautious on inflation but did not make any kind of U-turn.

Transitory or not transitory?

So, the big question remains: is low inflation still transitory? If so, the beaten US dollar could receive some support, at least for now. Maybe the Fed knows something we do not know and in any case, they are still on track to begin scaling down their bloated balance sheet in September and raise rates once again in December.

If they change their wording about inflation and cast new doubts, the dollar could extend its falls. This would be a surprise as markets are not expecting any significant announcement at this point.