More Unexpected Policy Twists And Turns By The Fed

John M. Bland, MBA

Chair Yellen Does It Again! I was taken aback by the lengthy Yellen speech last Tuesday. It was an academic presentation laced with an update of current conditions. Most of us had felt Yellen could have nothing new to say after the recent Fed meeting, but included in her speech, she sent a hawkish signal to the markets about the December FOMC meeting. It took a while for the markets to figure out if she was sending a hawkish or a dovish message. The bottom line is that the Fed is having trouble with its economic models when it comes to inflation. She said the Fed has to pre-emptive when it comes to inflation, which suggests that they will maintain a tightening bias, but if inflation does not pick up, they might have to ease policy again. The tone of the USD improved following the hawkish message by Yellen.

The Fed Chair Yellen candidly admitted that the Fed is at a loss about what to do about the employment and inflation risks. The economic orthodox Philips Curve has not been working. The Phillips Curve describes an inverse relationship between rates of unemployment and rates of inflation that result within an economy. The Fed believes that it would be imprudent to keep monetary policy on hold until inflation picks up to 2%. Yellen’s feeling is that the current level of inflation is “idiosyncratic” and will be “transitory”. The problem is that there is a split amongst Fed members on this topic. There is a fear of waiting too long until after inflation has been established. I feel that there are major issues about how full-employment is being measured. There is considerably more labor slack in the economy than the data suggests. If labor conditions are tight, why aren’t wage rates rising?

As a result of the Yellen presentation, markets have now priced in odds of 70% in Fed Funds Futures for a December rate hike from around 40% odds beforehand, also the yield on the bellwether 10Yr Note has risen to back above 2.30%. What confused many initially on Tuesday was her statement that if inflation does not pick up, they might have to ease policy. She is covered no matter what the outcome. Obviously traders will be watching upcoming inflation data very closely. The September employment in a week’s time could be critical to market sentiment heading into the yearend period.

The weekend German election ended with what is being described with the nightmare scenario for Angela Merkel. Due to a poor party performance, it is expected that she will be forced to form a four-party coalition (Jamaica Coalition, due to the party colors) to form a government. This unexpected development has undermined EURUSD confidence over the most recent week. It may not be until late the year before a new government is formed.

Amazing Trader EVENT RISK Calendar:

Mon 2 Oct
23:30 JP- Tankan Survey
All Day Mfg PMIs
Tue 3 Oct
04:30 AU RBA Decision
Wed 4 Oct
All Day Svc PMIs
12:15 US- ADP Jobs
14:30 US- EIA Crude
Thu 5 Oct
12:30 US- Weekly Jobless
12:30 US- Trade
Fri 6 Oct
12:30 CA- Employment
12:30 US- Employment

Be sure to refer daily Global-View to see the continuously UPDATED Economic Calendar and the Forex Forum for the complete list of key items (actual data, selected charts, etc.) as they are released.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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