Three Key Themes For the Week Ahead
1) FOMC Rate Decision on Wednesday at 1900BST/1400EDT
The main event of the week; all eyes will be on Wednesday’s the FOMC rate decision. No big changes to policy are expected (i.e. consensus expectations are for interest rates to be held at 0.0-0.25% and monthly QE purchases to be maintained at $80bln).
Nonetheless, that doesn’t mean it won’t be an interesting rate decision. The Fed recently pre-announced the conclusion of their monetary policy framework review that begun back in February; given the experience of the late 2010s where unemployment fell very low without triggering rising inflation, the Fed will allow the unemployment rate to drop further without worrying about inflation than it did in the past. Moreover, when inflation does come, the Fed will allow inflation to exceed its 2% target for a time, as it seeks to make up for past periods of time where inflation has undershot the target (most of the last 10 years) – this is called average inflation targeting.
Undoubtedly, this shift in policy makes this present-day Fed the most dovish Fed in modern history. Never before has a Fed expressed a desire for inflation to overshoot the 2% target (before the 2% target was seen more of as a ceiling). And never before has the Fed been so keen to allow the labour market to “run hot”.
But the Fed are yet to get to the specifics of their new policy shift. As in, they are yet to outline exactly how much they are willing to allow inflation to overshoot the 2% target, and for how long. Moreover, a specific unemployment rate at which point the Fed would start thinking about tightening has not yet been mentioned.
In other words, we know the Fed are dovish, but not quite how dovish just yet. Any more specifics on this front would be very interesting. But even so, this “most dovish Fed in history” will likely continue to keep risk assets (like US equities) supported and USD heavy in the near future.
2) Bank of England Rate Decision at 1200BST/0700EDT on Thursday
The challenges faced by the UK economy are growing; the unwinding of furlough (which is set to preclude a significant rise in unemployment), the seemingly ever higher likelihood that the UK is set to leave the EU single market without a trade deal (the uncertainty around which is already weighing heavily on the economy right when it is struggling to recover from the Covid-19 pandemic).
As such, most see downside risks to the BoE’s forecasts that the economy will be back to its pre-Covid-19 levels by the end of 2021.
The Bank of England is not expected to make any significant changes to policy at its meeting on Thursday.
However, given the above, market are starting to expect more stimulus is on the way in November. Will the BoE signal as much?
If so, what tools will they opt to use to ease policy further?
QE seems the easiest option, but the bank has explicitly left negative rates on the table for its monetary policy framework review, so they are always a possibility.
Was this latter option the case, GBP would be devastated, though most would agree that the BoE would rather keep negative rates in reserve for if the economy deteriorated even further (perhaps in the case of a no deal with the EU they would be used in early 2021).
3) Brexit; The Internal Market Bill
The introduction of the Internal Market Bill last week was the key reason why GBP was crushed (and GBPUSD fell nearly 500 pips on the week). The bill seeks to ensure that smooth, seamless trade within the UK can continues in the event that the UK leaves the EU single market without a deal at the end of the year, by overriding parts of the EU Withdrawal Agreement signed with the EU back in October 2019 – hence why the bill is being seen as a threat to negotiations on the future relationship with the EU.
But the bill making it into law in its current form is far from a certainty; weekend reports suggest that opposition to the bill within the ruling conservative party, who have a House of Commons majority of 64, is growing.
They may vote down the bill, or vote for amendments that render the bill impotent. Moreover, there are some suggestions that the House of Lords might also strike down the bill.
Watching the passage of the bill through the UK parliament this week will be an important consideration for GBP traders; the bill will be voted on tonight and enter something called the Committee stage tomorrow.
The EU have set an end of month deadline for the UK to axe the bill. Therefore, if we see it pass in its current form, this will be a negative for trade talks and a negative for GBP.
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