Economy

Dollar rises as Fed hints at December rate hike

Dollar rises as Fed hints at December rate hike”

In the statement, the Fed set October for the start of their previously announced plan to shrink its US$4.5 trillion balance sheet.

The Fed kept its interest rates unchanged in a target range of 1% to 1.25% on Wednesday, but two-thirds of the policy setting committee deem another 25 basis point rise by the end of 2017 as appropriate.

After buying up USA treasuries and mortgage-backed securities as part of "quantitative easing", the U.S. central bank's balance sheet has swelled to $4.5 trillion, around four times its size before the financial crisis.

"The [Fed] has been preparing the markets for balance sheet normalization for a long time", Seth Carpenter, an economist with UBS wrote in an analyst note.

After the conclusion of its two-day meeting, the FOMC voted unanimously to maintain its interest rates at 1.00 -1.25 percent.

The tapering could put upward pressure on longer-term rates, however.

Besides, and nearly unnoticed by markets, Fed balance sheet reduction has already and very gradually been taking place through USA commercial banks, which have reduced their excess reserves by roughly Dollars 500 billion since 2014.

In September 2005, the Fed under Alan Greenspan raised its key rate to 3.75 percent in its first policy meeting after Hurricane Katrina.

Market odds for at least one rate increase by December were approaching 60 percent by Tuesday afternoon. The caps will then step up gradually to $30 billion monthly in Treasury holdings and $20 billion in agency debt next year.

Therefore, the Fed can feel confident that its own measures should not send yields flaring up in a disrupting way for bond markets.

However, if a "negative shock to the economy were sufficient", the Fed would be prepared to act either but cutting interest rates or resuming the bond-buying stimulus program.

The markets aren't really sure what to expect, so we're looking at a cautious day's trading until the Fed announcement comes at 7pm United Kingdom time, or 2pm in NY. "We don't think that is enough to get markets to believe a Fed tightening for December, which is why we think the tightening mood will be transitory". That inflation could also damage the economy. Over time, however, as the Fed picks up the pace, it could cause some rate volatility. The European Central Bank has recently indicated that it will wind down its asset purchases as it responds to firmer growth in the euro area, while the Bank of England has suggested it could lift short-term rates this year in response to rising inflation risks. The unemployment rate is just 4.4 percent, near a 16-year low.

Fed Chair Janet Yellen said the fall in inflation this year remained a mystery, adding that the central bank was ready to change the interest rate outlook if needed.

Bond yields had inched lower ahead of the Fed meeting, then jumped alongside the USA dollar after the bank suggested it is open to raising rates once more this year in December, and three times next year.



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