As expected from the FX options market, higher volatility could be observed during yesterday's session. The prices of the main pairs related to the U.S. dollar showed above-average movements and the EUR/USD exchange rate obtained volatility of 140 pips.
All this in response to changes in monetary policy announced by US Federal Reserve President Jerome Powell during his online speech. The change in the monetary policy framework of the Fed is a move from an inflation target to an average inflation targeting (AIT). The AIT is to be able to keep interest rates low for a longer period of time, even if inflation exceeds the 2% target.
Under the current assumption of the inflation target, if inflation rose to 2%, the Fed would already have to think about interest rate increases, which would hinder access to credit and slow down economic growth. Currently, if the inflation rate increases to as much as 3% were to occur, the Fed could say that the average has not yet reached 2% and does not have to raise rates. As for the average period, this has not been announced. It will probably be published at the next Fed meeting on September 15-16.
The Federal Reserve is thus giving itself the gateway to keeping interest rates close to zero for years because if inflation does not appear, rates will not change. If inflation does, then rates will change, but much later.
What does this mean for the markets? A very long period of access to the very cheap US dollar and an increase in asset prices. Gold, cryptocurrencies, real estate, commodities could potentially gain, and the US dollar, for example, may decline, because other central banks have not changed their approach to inflation at the moment.
What's more, the Fed has announced that it will place the greatest emphasis on the labor market and therefore can tolerate higher inflation over time, especially in the absence of improvement in employment. Although the circumstances surrounding the announcement of these decisions were not spectacular, their consequences could have a huge, long-term impact on financial markets, the economy, and households.
Daniel Kostecki, Chief Analyst Conotoxia Ltd.
Materials, analysis and opinions contained, referenced or provided herein are intended solely for informational and educational purposes. Personal opinion of the author does not represent and should not be constructed as a statement or an investment advice made by Conotoxia Ltd. All indiscriminate reliance on illustrative or informational materials may lead to losses. Past performance is not a reliable indicator of future results.
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