Foreign exchange market has been quiet

The foreign exchange market has been very calm over the past week. The dollar remains weak against the major currencies: the EURUSD parity is close to its highs for the year and the USDCHF remains below 0.90. On the other hand, analysts of all stripes did scramble to dissect the latest FOMC meeting minutes, which were released last Wednesday. As a reminder, Fed members have been saying that the current surge in inflation is only a temporary effect of the stimulus plans and the economic recovery. They have therefore dismissed the idea of taking action in response. The priority is still returning to full employment and inflation stabilised below two percent. Nevertheless, and interestingly enough, the minutes show that a number of Fed officials, even if perhaps not the most influential ones, are beginning to consider that it will soon be necessary to discuss adjusting US monetary policy.  The minutes read:

“A number of participants suggested that if the economy continued to make rapid progress toward the Committee’s goals, it might be appropriate at some point in upcoming meetings to begin discussing a plan for adjusting the pace of asset purchases.”

What do they mean by ‘adjusting the pace of asset purchases’? Our immediate thought is of a rake hike. It seems obvious that at some point the Fed will have to raise its current key interest rate by a quarter point. But this is not a give right now: the Fed members are not planning to raise rates any time before the end of 2023 and the market is also betting on the first such rate hike coming in Q3 2023. There is, however, another tool available to the Fed that could be used much earlier: “tapering”. In the relevant context, this tapering – a tightening or reduction – means that the Fed will eventually reduce the support it provides to the economy through its bond purchases, i.e. the famous “quantitative easing”. Anyone who has followed recent statements by Fed members will have understood that this tapering of monetary policy will not happen in the short term. Analysts are going over every new statistic, particularly on employment or inflation – which are the two targets mentioned above – to try and determine when it will start. Yields on US Treasuries are slightly lower than last March: the yield for the 10-year note fell to 1.58% and is now moving within the 1.47–1.77% band.

In Europe, there is also talk on whether to reduce asset purchases. Francois Villeroy de Galhau, member of the ECB Governing Council, has stated that it is not yet time to reduce them and that this will not be on the agenda for the next ECB meeting on 10 June. Unlike his counterparts across the Atlantic, he is ruling out any discussion for the moment, which suggests that the recovery will take longer in Europe. Hungary left rates unchanged as expected, but hinted that a hike could be decided on 22 June in order to counter inflation. In Turkey, President Recep Tayyip Erdogan fired another central banker to appoint a former adviser in his place, which caused the Turkish lira to fall further. The Swiss franc continues to benefit from a weak dollar and its safe haven status. In the meantime, equity markets have had a few rough sessions and cryptocurrencies have suffered massive sell-offs following China’s decision to ban its financial institutions from using them. Gold, another safe haven par excellence, has also risen and just passed $1,900 per ounce, a four-month high. The Fed, with its temporary inflation discourse, is easing the pressure on interest rates and paying a little more attention to the precious metal.

On the commodities side, oil climbed 6.5% in three sessions. The main catalyst is the return of global demand as economics begin their recovery and travel restrictions are gradually lifted. More travel is expected in the United States and Europe this summer. On the supply side, the market is watching with great interest the negotiations on Iranian nuclear power, which are likely to increase the number of barrels of crude in circulation and therefore to weigh on prices.