As largely anticipated, markets have begun to recalibrate stimulus expectations ahead of this Friday’s conference in Jackson Hole with the U.S dollar the prime beneficiary. After attracting some bids in yesterdays domestic session, the Australian dollar resumed a downward trajectory overnight, crossing the downside of 103-figure to 5-week lows of 102.76 US cents. The Euro outpaced its risk counterparts but remained capped under the weight of a stronger greenback. This theme of dollar strength was apparent across its high-beta counterparts and risk currencies alike, but increased Yen demand saw the Japanese safe-haven stronger against with the USDJPY pair edging lower. U.S equities reflected the declining odds of QE3 with the DOW and S&P losing 0.81 and 0.78 percent respectively.
Markets are looking at each incoming data pulse in the context of the whether the Federal Reserve will launch a third round of quantitative easing, and although incoming data points show the U.S recovery remains tepid at best, bright spots across some leading indicators suggests the Fed may be reluctant to imminently launch QE3. Recent reports on retail sales, GDP and housing all point to a slightly stronger than anticipated recovery and there’s a sense some of the softer incoming data points could be worse. In essence, what we’re seeing is a healthy recalibration of expectations which decreases the risk of disappointment if the Dr. Bernanke fails to provide any immediate signal the Fed is on the cusp of commencing new asset purchases.
U.S economic data overnight showed personal consumption rose 1.6 percent in annual terms, falling from 1.8 percent in July. Personal income rose 0.3 percent in July to match estimates and June’s growth and spending edged up 0.4 percent from a flat reading in June. Weekly jobless claims were unchanged at 374,000 for the week ending August 25, edging slightly higher above consensus estimate of 370,000. Atlanta Fed President Dennis Lockhart also prompted a dulling of stimulus expectations overnight, stating in an interview with CNBC that additional easing is a “close call” while adding “I am not overly concerned with the longer-term costs of more action but at the same time I see limited benefit from more action.”
Nevertheless, feedback from the Fed in recent times has forced markets to price in such easing prospects. In response to questions from the Chairman of the House oversight committee, Darrell Issa, Fed Chairman Ben Bernanke once again displayed a willingness to enact further easing initiatives. In a written reply dated 22nd August, Bernanke noted “there is scope for further action by the Federal Reserve to ease financial conditions and strengthen the recovery.” Furthermore, responding to concerns on the implications of existing initiatives taken by the Federal Reserve, Bernanke defended Fed policy decisions stating they have “helped to promote a stronger recovery than otherwise would have occurred, and to forestall the possibility of a slide into deflation by putting downward pressure on longer-term interest rates and contributing to broader easing in financial conditions.” Still, the letter failed to provide specifics or if indeed further action is required, given existing programs such as operation twist has yet to fully infiltrate the economy. The letter is in tune with recent Fed commentary with last week’s release of the monetary policy minutes stating “many members judged that additional monetary accommodation would likely be warranted fairly soon unless incoming information pointed to a substantial and sustainable strengthening in the pace of the economic recovery.”