Economic Outlook Has Improved
The US Dollar strengthened in late trading yesterday in reaction to comments made by new Fed chairman Powell during his first testimony. Perhaps the most market moving comments were those in reference to how the Fed’s economic outlook has developed since the December FOMC. Speaking during the testimony new Fed chairman Powell said “What we’ve seen is incoming data that suggests the strengthening in the economy. We’ve seen continuing strength in the labor market. We’ve seen some data that will, in my case, add some confidence to my view that inflation is moving up to target. We’ve also seen continued strength around the globe, and we’ve seen fiscal policy become more stimulative.”
Powell on Fiscal Stimulus
Further on during his testimony, Powell said that the full extent of recent fiscal stimulus had not been captured in the December SEP forecast or in the discussions at the January meeting as it was after the December meeting that the US tax bill was passed and after the January meeting that the budget agreement was passed. Fiscal policy is widely expected to have a significant boosting affect on growth over the latest half of 2018 and into 2019.
Speaking on this matter, Powell said “…the tax bill was passed about a week and a half after our December meeting and then the spending bill was about a week and a half after our January meeting so in each case we didn’t have the full set of information. I think our view – my personal view would be that there will be a meaningful increment in demand, at least for the next couple of years from the combination of those two things.”
Powell on Unemployment Level
While the majority of the new Fed chair’s comments were positive and helped fuel USD buying, there were some areas where Powell was not quite so positive. Powell noted that the level of unemployment which the Fed deems suitable in line with its mandate of securing “maximum sustainable employment” might be lower than the bank previously thought. In terms of an actual level, Powell said
“If I had to make an estimate it’s somewhere in the low fours… but it could be five or it could be three and a half.” Powell then later said
“I think we are engaged in the process of discovering the natural rate. I think the median SEP participant says it’s in the mid fours, that sounds about right to me.”
In Powell’s written statement, the Fed chair wrote that
“further gradual increases in the federal funds rate will best promote attainment of both of our objectives.” This indicates that Powell wants to aim to curb further reductions in the unemployment rate. One way of looking at this is to think that Powell could support higher rates in order to stem the fall in unemployment below the Fed’s estimate of the long term natural rate.
View For March
In terms of looking ahead to the March meeting, Powell’s first testimony has given bulls much to be optimistic about. Powell’s optimism regarding the economic outlook alongside his view that inflation will rise to the Fed’s 2% target in the medium term, should see a hawkish meeting in terms of raising the Fed’s dot plot forecast over the rest of the year. However, increasing the projection from three hikes to four hikes will depend on incoming inflation data and the development of financial conditions between now and the March meeting.
After stalling at the retest of the 61.8% retracement from 2014 lows to 2017 highs, USD has since rebounded marginally higher and is now testing the underside of the broken supporting trend line running 2015, 2017 highs. A break back above this level will put focus on a retest of the late 2017 low and broken 50% retracement around 91.24.