FOMC June Meeting Reaction: Powell strikes dovish tone

( 2 min read )

Chair of the Federal Reserve, Jerome Powell, struck a dovish tone during yesterday’s FOMC announcement, warning about the downside risks posed by the COVID-19 pandemic and stating that rates will likely stay at current levels for the foreseeable future.

oing into Wednesday’s meeting the market was of the view that there was a chance Powell may sound an optimistic note, possibly noting that last week’s remarkably strong US payrolls report was a sign of a faster-than-expected economic recovery. There was, however, no such optimism from either Powell’s press conference or the Fed’s accompanying communications. Instead, Powell warned that the risks posed by the virus remained elevated and that there was a greater likelihood than not that the central bank would take additional action to support the economy.

One of the key things that we noted to look out for ahead of the meeting was the Fed’s updated economic and interest rate projections. Regarding the former, the bank stated that it now expects the US economy to shrink by 6.5% in 2020 with unemployment to ease, albeit remain elevated, at 9.3% by year-end. These are of course consensus estimates – the actual views among the committee are wide-ranging, with policymakers envisaging GDP contraction of anything between 4% to 10% this year.

Then there is the small matter of the Fed’ ‘dot plot’, which shows where each member of the committee expects rates to be in the years ahead. As we anticipated prior to the meeting, this was revised sharply lower to show the vast majority of rate-setters expect interest rates to remain unchanged through the forecast horizon (i.e between now and the end of 2022). Some economists’ had predicted that a handful of FOMC members may have seen higher rates as likely in the year after next. In the end, only two members believed that rates would be hiked in 2022, with the remaining fifteen seeing no change (Figure 1). A potential positive to draw upon is the fact that no committee member appears to be in support of negative interest rates, something that the market had begun pricing in back in May.

Figure 1: FOMC June 2020 ‘Dot plot’

Source: Refinitiv Datastream Date: 11/06/2020

The ‘dot plot’, combined with the bank’s pledge to continue purchasing assets at an aggressive pace as needed, is a firm commitment from the bank that it will continue to do what is necessary to support businesses and households during the worst of the downturn. It is clear that there remains plenty of work to be done to restore the US economy back to pre-crisis levels, so the Fed’s pledge to remain accommodative for the foreseeable future can be viewed as an encouraging one for markets.

The reaction in the FX markets was, however, rather limited, despite both the downbeat tone of communications and the dovish ‘dot plot’. EUR/USD briefly edged higher versus the greenback, although opened London trading this morning lower than where it was prior to the announcement. The main beneficiaries were the higher risk currencies such as the New Zealand and Australian dollars, although even these currencies quickly erased all of their gains. We think that this has to do with the fact that the announcement was broadly as the market had expected with most investors bracing, as we had, for a pledge to keep rates at rock-bottom levels for the foreseeable future.

Figure 2: EUR/USD (10/06/2020 – 11/06/2020)

Source: Refinitiv Date: 11/06/2020