The September minutes from the Federal Open Market Committee (FOMC) reveal a lack of urgency from the Federal Reserve regarding interest rate reductions, despite a recent 50 basis point cut. The prevailing sentiment suggests that the immediate inflation crisis has subsided, unemployment rates are gradually increasing, and a recalibration of policy is necessary through a risk management approach. ING’s FX analyst, Chris Turner, highlighted that there are no strong indicators regarding the pace of future rate cuts, which will ultimately hinge on incoming economic data.
Turner further noted that market reactions have been muted due to significant adjustments in short-term U.S. rates since late September. The Fed‘s terminal rate for the current easing cycle has been revised upward by 50 basis points in recent weeks, leading to a notable shift in short-dated yields favoring the U.S. dollar. As a result, the EUR/USD two-year swap differentials have widened from 85 basis points to 130 basis points in just three weeks, pushing the EUR/USD pair closer to 1.09.
Looking ahead, Turner speculated on the potential for further increases in short-dated U.S. rates, suggesting that substantial upward movement is unlikely. However, today’s U.S. Consumer Price Index (CPI) data could change the narrative, particularly if it exceeds the consensus estimate of a 0.3% month-over-month increase. While this may not derail a potential 25 basis point cut by the Fed in November, it could constrain the central bank‘s options for aggressive easing. Additionally, two Fed officials, Tom Barkin and John Williams, are set to speak later today, both known for their moderate hawkish views.
The foreign exchange market remains volatile, influenced by China’s stimulus measures and ongoing geopolitical instability in the Middle East. Investors are anticipating an announcement from the Chinese Ministry of Finance regarding new bond issuances totaling CNY 2-4 trillion, which could bolster commodity currencies. Nonetheless, the bearish flattening of the U.S. yield curve presents a headwind for these currencies. Should the U.S. core CPI report surprise to the upside today, the DXY index may target the 103.35 range, with geopolitical uncertainties likely providing additional support for the dollar.
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