What is the net effect on the dollar?

Outlook: We get inventories, new home sales and oil inventories today. Oil would be interesting if there were a connection between data and prices in that market. Bloomberg confidently reports “The Bank of Canada is likely to announce a rate hike at 10:00 a.m.”

But clearly it’s going to a day of twiddling fingers until Fed chief Powell speaks at 2:30 pm—assuming no reportable action after the Fed meeting (and no leaks). Everything depends on the press conference now. Traders want to know if there is hard news on the expected March rate hike—and by now it would be “news” if Powell did not affirm that expectation, however softly.

Because we forget old news instantly, remember that some had predicted a rate hike as early as this meeting. Also, while Powell may affirm the March hike, he can’t be expected to say anything about more than three, as several regional Feds and important Bib Bank CEO’s have suggested.

And then there is the issue of whether Powell mentions contracting the Fed balance sheet, too. Nobody knows the trade-off between outright rate hikes and contracting the balance sheet. Less money is less money, but that doesn’t account for the psychological effect of one over the other. Hikes are outright hawkish and meet the perceived need to deal with inflation, even if contracting the balance sheet might be having the same effect, via the banks and the multiplier.

Let’s assume it’s the hikes that count and then the question becomes whether it’s three—or four or more. We do not expect Powell to address that problem, nor should he—if inflation has fallen back hard to (say) 3.5% by September, the Fed may well decide at that point to sit on its hands for a while, depending on where growth has gone and is going. Powell can’t know that now any better than the rest of us and it would be irresponsible to hint at multiple hikes now. The best we can hope for is another resounding commitment to bringing inflation down. As before, the market should buy it.

An enduring theme will be that possible recession arising from the hawkish Fed, and for that, the yield curve may be the thing to watch. Yesterday, Reuters reports the yield curve between 2-year and 10-year notes flattened to less than 75 basis points, the narrowest since Dec. 28. We say this doesn’t pass the “So What?” test. Besides, if inflation is short-lived, the dip in growth should be short-lived, too. That’s the viewpoint of JP Morgan and Morgan Stanley, although plenty of other viewpoints are out there to beguile and waste our time.

The IMF didn’t help with a growth downgrade yesterday. For context, remember that on Jan 19, the Atlanta Fed had 5.1% for Q1. We get an update today, and tomorrow it’s another version of GDP for Q4.

But the IMF forecasts a drop by 1.2% in US GDP for this year, to 4%. 2023 will be only 2.6%. Overall, global growth will fall to 3.8%, down 0.2%, with risks to the forecasts from the pandemic, inflation, supply disruptions and U.S. monetary tightening. Gee, nobody else’s tightening counts?

Omicron’s depressing effect should fade after Q1, but we can’t count on it. 

The other important forecast is China, expected down 0.8% to 4.8% (from 8.1% in 2021). The eurozone will get 3.9% (down 0.4%) and the big emerging markets will have hardly any growth—Brazil, 0.3%; Mexico, 2.8%.

For currencies, chart-reading has been a total dud for the past few days. It’s possible a trader looking at 30-minute charts and a holding period of 15 minutes could make gains, but those of us aiming to take a daily bite out of a longer trend are screwed. It’s not just alternating currents, but also some obscure or hidden stuff. One is the intricate debate over the potential Canadian rate hike. The factors on both sides are lengthy. We guess the BoC wants to stay in the relatively same position as the Fed, but it’s not clear whether that means a preemptive hike today or not. Another is the peculiar performance of the Swiss franc against the dollar but also against the euro. Did the SNB give up intervening and then take it up again?

In the bigger picture, things to worry about include just how much growth is China risking with the zero-tolerance policy, a factor named by the IMF as about equal to the property sector debt problem. Another is the role of the AUD (and NZD) as the bellwether for global growth. The China situation impinges on that, too. One of the last things to worry about is the US economy—as long as supply chain issues are getting fixed and do not provide a major drag.

Getting a grip on supply chains is really tough—story #1 says yes, improvement and story #2 says no, worsening. A scary tidbit from Bloomberg: “A report released by the Commerce Department and based on information from more than 150 companies in the chip-supply chain shows there is ‘a significant, persistent mismatch in supply and demand for chips.’ The companies don’t see the problem being solved in the next six months, according to the report.”

This is why Mr. Powell cannot speak of more than three hikes today.

Bottom line, the stock market wants to recover on confidence in the Fed. The need for a safe-haven is diminishing but replaced, at least in part, on the expectation of less negative real rates in the US. What is the net effect on the dollar? Recovery, but slow as molasses, and uneven.

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This is an excerpt from “The Rockefeller Morning Briefing,” which is far larger (about 10 pages). The Briefing has been published every day for over 25 years and represents experienced analysis and insight. The report offers deep background and is not intended to guide FX trading. Rockefeller produces other reports (in spot and futures) for trading purposes.

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