The US currency weakened last night against other major world currencies. This happened after the Federal Reserve left the federal funds rate range unchanged and presented the latest macroeconomic projections.
The dollar has depreciated for the third day in a row. Fed decision, projections, and speech of Federal Reserve chairman Jerome Powell were seen by investors as dovish. The central bank left the target range for the federal funds rate at 1.5-1.75 percent. Powell strongly suggested that US interest rates will not change in the near future. He reiterated that the Fed's current stance will support growth and employment and will probably remain relevant in the near future. Investors in the interest rate futures have fully priced a quarter-point cut by the first half of 2021. According to the market, we have a pause, but in a cycle of interest rate cuts.
Economic projections of Federal Reserve Board members and Federal Reserve Bank. Source: federalreserve.org
First of all, the Fed lowered expectations for the level of interest rates for 2021-2022 from 2.1 to 1.9 and 2.4 to 2.1 percent, respectively. The Fed expects further improvement in the labor market, where the unemployment rate in 2020 is expected to fall to 3.5 percent. This indicator was also improved for 2021 and 2022 from 3.8 to 3.6 and 3.9 to 3.7 respectively. Other macroeconomic indicators have not changed. Inflation is expected to remain at 2 percent, while GDP is expected to decrease from 2.2 percent. in 2019 to 1.8 in 2022.
The dollar's reaction may show that the period of strong American currency may be behind us and 2019 may end the period of the dollar's strength. Nevertheless, a lot will depend on the European Central Bank's approach to monetary policy, which we will have the opportunity to meet today at 13:45 and 14:30.
What is happening on the currency options market in the form of expected volatility may indicate the importance of today's decision. One-day volatility for EUR/USD has risen today to the fourth of the highest levels this year during ECB decision, although decision-makers are likely to leave interest rates and asset purchases unchanged. Expected volatility increased to 13.29 percent, which is almost a three-month high. The market may expect fluctuations in the EUR/USD exchange rate of around 60 pips. It should be remembered, however, that these calculations are also influenced by the elections in Great Britain and their preliminary result. Today we will also get the ECB's updated forecasts, including the first for 2022 and the first review of the ECB's strategy in 16 years.
Meanwhile, the volatility for the British pound has increased tremendously due to today's election. This is the highest value since February 2017, reaching expected potential fluctuations of 275 pips on the GBP/USD pair. Despite recent increases in the GBP/USD exchange rate, investors on the options market seem to hedge against possible weakening of the pound. The election will end today at 23:00 Polish time.
Daniel Kostecki, Chief Analyst Conotoxia Ltd.
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