On March 25th, Philadelphia Fed President Plosser surprised the markets by laying out a strategy for withdrawing the massive monetary stimulus pumped in over the last 4 years and stated that an improving economy means policy makers should consider how to exit. He stated that the Fed should sell assets from its balance sheet and raise interest rates at the same time.
On March 26th, St. Louis Fed President Bullard stated that the FOMC should review QE2 to see if it could be completed early as the economy may not need it as it has rebounded. He went on to criticize the language of the Fed's policy statement, saying, "The conventional wisdom policy response to a negative shock is to promise a longer 'extended period...This may work — but it may also encourage a liquidity trap outcome."
Today, we'll have additional Federal Reserve members speaking: Atlanta's Lockhart (non-voting), Chicago's Evans (voting) and Boston's Rosengren.
I'm looking to see if we get the same consistent message: the economy has recovered, there are risks to the current monetary policy and there needs to be an explicitly stated "exit" program by the Federal Reserve. If yes, then we know that the central bank is growing uncomfortable with their current highly stimulative policy and needs to begin today the market education of how they will exit.
Last week, the Federal Reserve also announced they will begin a series of press conferences after policy meetings (similar to the ECB). This will further allow access to the FOMC and Ben Bernanke to express their views on their policy and what they will be doing going forward. They would only be doing this if they were gearing up for a change in policy. While this is not imparting divine afflatus of the Fed, the markets did react strongly to this hawkish verbiage by jumping rates around 25 basis points in 2 days.
In the world of currencies, this matters. We have seen the spreads between U.S. and German 2-year government securities narrow from around 110 basis points to 98. While this is still substantial, it has taken the wind out of the euro's sails and cooled that currency's rally. The risk for the currency is a combination of a more hawkish Federal Reserve and an ECB that stands pat longer than the market is anticipating. However, the comments by ECB's Trichet today are setting strong market expectations for action.
Therefore, we'll need to get a better than expected April 1st U.S. employment data coupled with no change in policy at the ECB's meeting on April 7 to drive the euro lower against the dollar.
Andrew B. BuschDirector, Global Currency and Public Policy Strategist at BMO Capital Markets, a recognized expert on the world financial markets and how these markets are impacted by political events, and a contributor to CNBC's Money in Motion Currency Trading.You can comment on his piece and reach him hereand you can follow him on Twitter at http://twitter.com/abusch .
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