Dollar Gains Following Fed Minutes

 | Aug 21, 2014 04:27AM ET

FOMC to Market: Get Ready, Cause Here We Come

The dollar gained across the board (again!) after the minutes of the Federal Open Market Committee (FOMC)’s latest meeting showed that the hawks within the FOMC are shifting the grounds of the debate. There was no discussion on whether a rate hike might be warranted; rather, the group only debated whether to begin raising rates earlier than they currently anticipate in light of the rise in inflation and the faster-than-expected improvement in the labor market. The key passage read: o “…many participants noted that if convergence toward the Committee’s objectives occurred more quickly than expected, it might become appropriate to begin removing monetary policy accommodation sooner than they currently anticipated. Indeed, some participants viewed the actual and expected progress toward the Committee’s goals as sufficient to call for a relatively prompt move toward reducing policy accommodation to avoid overshooting the Committee’s unemployment and inflation objectives…”

At the end they decided they needed to see more evidence before changing policy, but the message to the market was clear: get ready, ‘cause here we come!

The comments show a more aggressive stance among the FOMC members than Fed Chair Yellen has indicated. She has been careful to balance statements about how rate hikes might come earlier than expected if the economy continues to improve at a faster-than-expected pace with comments about how hikes might be delayed if the economy underperforms. At the FOMC meeting however there was only discussion about the former possibility, not the latter. Investors will be waiting to see whether Yellen continues with a balanced view in her discussion of the labor market tomorrow or whether she too has become more confident about the outlook.

The significant point for me is that while the FOMC is debating whether they might have to raise rates sooner than they had anticipated, the market still hasn’t caught up to the FOMC’s existing expectations. Fed funds rate expectations for July 2017 rose 6 bps yesterday, but the market is still far behind the Fed – the average weighted FOMC expectation for rates at end-2016 is 86 bps or three rate hikes higher than the market’s forecast. This means there is still plenty of room for market expectations to adjust and for the dollar to move still higher. One more positive indicator: the US stock market closed higher Wednesday despite the hawkish tone of the minutes, indicating that the FOMC is not likely to be deterred from hiking out of fear of the stock market’s reaction.