Dollar tumbles as Powell says no rate hike, no taper

Investors sold U.S. dollars after Federal Reserve Chairman Jerome Powell made it very clear on Tuesday that there will be no interest rate hikes or tapering in the foreseeable future. The U.S. economy is recovering, inflation is on the rise and with more Americans getting vaccinated, the outlook is bright. In fact, Powell expects to raise the Fed’s 2021 GDP forecast to the range of 6%. Yet these improvements are not enough for the central bank to move away from their commitment to keep monetary policy easy until a sustainable recovery returns the economy to pre-COVID levels.

In his semi-annual testimony on the economy and monetary policy Powell said substantial progress has not been made towards their goals.  The Fed is committed to using their full range of tools to support the economy and to help ensure that the recovery from this difficult period will be as robust as possible. Powell said job growth alone won’t drive their decision. Investors didn’t believe him when he said rates need to remain at current levels until the economy reaches maximum employment and inflation hits 2% in early February.  Today he said they want to see inflation moderately above 2% for some time before tightening and when the time comes to change the pace of asset purchases, they’ll make their intentions very clear. There will be no surprises.

By pledging to keep interest rates where they are now for the next year or two, Fed Chairman Powell endorsed a decline in the U.S. dollar.  Inflation expectations was the primary reason for the surge in Treasury yields and now that Powell said he’s not worried about the increase, we could see rates descend from their highs. Combine that with the prospect of more spending and there could be further weakness in the greenback particularly the USD/JPY pair.

Sterling benefitted the most from the slide in the dollar with GBP/USD taking out 1.41. U.K. labor data was mixed. While employment change dropped by -114K in the month of November, four times more than expected and the unemployment rate rose to the highest level in 5 years, average hourly earnings growth was very strong. Wages rose 4.7% against expectations for 4.1% increase. Numbers like this all but guarantees that the government will need to extend the furlough scheme but with Prime Minister Johnson providing a plan to open schools and ease restrictions, sterling traders are looking forward to jobs returning. 

In contrast, euro sold off against the U.S. dollar despite dovish comments from Powell. A lot of this has to do with ECB President Lagarde’s recent comments. She said they are watching  the rise in yields very closely which has some investors worried that they could take steps to drive the currency and rates down.

The focus shifts to Asia tonight with a Reserve Bank of New Zealand monetary policy announcement on the calendar. The RBNZ is widely expected to leave interest rates unchanged. The last time they met was in November and they were less dovish. Since then, New Zealand’s recovery slowed but the global recovery accelerated. With the currency trading near three year highs, there’s little reason to believe that the central bank is considering a rate cut or a rate hike. The Canadian dollar held onto its gains while the Australian dollar consolidated.