September FOMC preview

The WSJ’s Hilsenrath writes up what he is watching for at tomorrow morning’s (Sydney time) FOMC window.

My read (guess) of the runes: we will get an open ended asset purchase policy with an initial commitment that takes us out to January 2013 (a natural time to revise forecasts).

In the enlarged LSAP program, my guess is that the FOMC continues all twist-related buying and tops up their UST purchases a little with QE3. However, a large part of QE3 seems likely to be MBS buying.

The low rate pledge will move out a year to 2015, combined with either more strongly worded guidance or possibly a single unified set of fan-chart forecasts which make clear that the policy interest rate will remain low even if the economy outperforms the FOMC’s expectations by a decent margin.

The IOER rate will remain 25bps.

Market reaction: I am thinking that the expectations channel (higher inflation expectations) means we get a bear-steepener in rates. The USD weakens, equities and commodities rally; breakevens wider.

For Australia, the level of the AUD is becoming a problem. If it is ~1.10 by the time of the next board meeting, the RBA could cut just to take the pressure off … Notwithstanding the ‘risk rally’.

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12 Responses to September FOMC preview

  1. ssec says:

    “If it is ~1.10 by the time of the next board meeting, the RBA could cut just to take the pressure off…” do you refer to FX intervention? Because RBA cutting rates is already priced in….

    • ssec says:

      It’s actually “funny” to see how Australia is paying for US and EU problems…. The ASX 200 is still about 30% down from pre-GFC, while the S&P 500 and DAX have basically recovered most of the losses already. And that’s mainly because of the high AUD and higher rates here compared to there… weren’t we the ones supposed to have a great economy???

      • b_b says:

        A good eeconomy does not equal a good sharemarket (see China). It is all about “share of output”. In the US, corporate profit share has exploded at the expense of wage share. This is good for capital (shares), bad for labour (humans).

        The reverse is happening in Australia. Unit labour costs have reversed their long run decline, and corporate profits have declined as per the ABS series (and a raft of ASX announcements). Clearly good for labour, not so good for capital, and is the reason why we have had solid real wage growth without the cost of meaninful inflation.

        I prefer the Australian Model. Here is what the US model gives you:
        http://www.businessinsider.com/poverty-in-america-2012-9

      • Ricardo says:

        Aussie actual profits in 11-12 were below the estimates made in the 08-9 year … Yes that is right, they were below GFC expectations. That is why we have underperformed.

        It is probably due to structural change as listed corps by definition are previously successful corps. An interesting paper would be ‘is dutch disease a financial disease?’…

      • ssec says:

        I hear you, but there’s lots of people in Australia have their savings invested in the share market. Should the AUD drop, let’s say 20% (all other things being equal), nothing would happen to local wages, the share market would shoot up 30% and we would pay a bit more for imports, like petrol. However, inflation would not shoot up, as many exporters to Australia are not pricing based on FX.

      • ssec says:

        “Aussie actual profits in 11-12 were below the estimates made in the 08-9 year … Yes that is right, they were below GFC expectations. That is why we have underperformed. ”

        I reckon inflation (the expense side) is one of the major problems, and the high AUD.

    • Ricardo says:

      No just a rate cut. There is only 10bps priced for Oct just now.

      • ssec says:

        But if local economic data does not deteriorate, even with a high AUD, they will not cut, will they?

        • Ricardo says:

          Depends on what the AUD does to their terms of trade numbers. A higher AUD and no recovery in coal and iron ore prices would be worrying. That could happen as IO and coal are less ‘financial’ than the AUD or screen traded commodities – both of which are already showing QE like patterns.

          It would lower my investment assumption, and therefore widen my output gap and lower the inflation forecast … Not to mention the fiscal implications.

      • ssec says:

        Yes, but I guess the problem is that the AUD can be VERY volatile, so including AUD levels that in your forecast for monetary policy must be very hard. If you cut because of the high AUD, you can be caught on the wrong side ion a matter of days. And then what you do? Rate increase next month? If they are worried about high AUD I think the only policy response is FX intervention IMO. Basically I think the AUD will not affect their decisions, only “real” data, like inflation and unemployment.

      • b_b says:

        I think ssec makes a good point.

        Didn’t the Swiss use interest rates to try and managed their currency (and failed)? Now they are dealing with a property boom (bubble?), and had to Intervene in the currency market anayway.

        Perhaps the RBA may act the same way?

  2. b_b says:

    I think that is a good summary.

    Yet is still amazes me QE is still considered money printing, and in some way inflationary. I hope US 10-Y T’s get to 2.5% as a result of this – I will be bying them with my ears pinned back.

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