Increase in US CPI makes the federal funds rate more likely to be up four times in 2018
The US dollar was not that responsive to the increase in consumer price rate to 2.9% and the core inflation to 2.3% Y-o-Y in June. As I’d suggested, the USD index sharp surge in the week ending July 13 resulted from buying on rumours. As soon as they were proved, speculators decided to fix the profits. The strongest increase in CPI since 2011 and core inflation rise make the Fed funds rate more likely to be raised four times in 2018. The chances for it reached 60%, and were down to 58% at the end of CME derivatives trading. And there are also trade wars...
According to Pantheon Macroeconomic, a full-scale trade war of the USA and China will add 6 bps to the PCE in 2019. While the US inflation has already reached its 2% target, its further growth, resulted from foreign factors, is a real concern for the Fed. However, Jerome Powell doesn’t want to exaggerate. According to him, there is no clear information about the trade wars influence on the US economy. If Donald Trump wants to cancel any tariffs and get the world to free competition, it will be the advantage for the US GDP. If the tariffs, on the contrary, are rising all over the world, the effect will be negative. The Fed’s chairman doesn’t think the central bank to be in a critical situation. It would be far worse, if the US economy were declining and inflation rate were rising.
The US Treasury Minister Steven Mnuchin also said the USA to oppose the tariffs, calling China for negotiations, in case Beijing starts economic reforms. It eased the tension and switched investors’ attention to the monetary policy. According to a FOMC centrist Patrick Harker, if inflation rate is up to 2.5%, he will support the idea of federal funds rate hikes this year. A hawk Loretta Mester suggests that the US economy can afford two more increases of the interest rate in 2018.
FOMC projections for the federal funds rate
Almost all of the 63 experts, interviewed by Wall Street Journal, believe the Fed to tighten its monetary policy. 84% of them suggest that the central bank will increase the interest rate again in December. According to the median forecast, the federal funds rate will be at 2.33% in late 2018 and will stand at 3% in late 2019. The US unemployment rate will be down at 3.7% by the end of this year and at 3.6% in mid-2019.
Therefore, monetary normalization in the USA is progressing, while the European central bank prefers the easy money policy. According to the last ECB minutes, the Governing Council has been unanimous about reduction of assets buyout volume from €30 billion to €15 billion per month, in October-December period. It may seem that the divergence in monetary policies should contribute to the EUR/USD downtrend. The matter is that the USA is at the end of its economic cycle, and the Eurozone hasn’t even reached the middle of it. Consolidation in the range of 1.1515-1.1815 continues.
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