Analysing the Fed’s balancing act

The global economy is recovering, but could easily be derailed by policy uncertainty and the threat of protectionism, said International Monetary Fund managing director Christine Lagarde in Beijing earlier this month.

Meeting with the heads of other international organisations, including World Bank president Jim Yong Kim, Ms Lagarde’s comments are shared by those who view the United States’ administration and trade protectionist measures with some concern.

The upcoming September US Federal Open Market Committee (FOMC) meeting may provide some insights into the direction of US monetary policy and balance sheet tapering. All eyes are on the US central bank with regard to its decision on the interest rate hike path.

This week’s key focus lies with the FOMC meeting, where an announcement of the Fed’s plan to shrink its massive US$4.5 trillion (S$6.1 trillion) balance sheet and decision on interest rates is widely expected.

The quantitative easing reduction plan, as depicted in the FOMC July meeting minutes, is slated to draw little reaction from a well pre-empted market.

The view on future interest rate changes may, however, be less clear-cut. The market will be watching for the Fed’s views on economic conditions and monetary policy outlook. The recent set of indicators, such as August’s consumer price inflation, may have strengthened the case for a lift-off in December, but a multitude of uncertainties lies ahead. Policy uncertainty looms, with US tax reform promised by year-end, although plans remain hazy at best.

The extension of the debt ceiling to December and the outlook for next year are other items for the Fed to juggle, creating a perfect storm for the US market.

The broad market’s view appears to point to an interest rate hike withheld until next year. With all the considerations to balance, the Fed’s every move will be watched in the upcoming meeting.

Joining the Fed in updating its monetary policy this week will be the Bank of Japan.

Following on the heels of the Fed announcement, the Japanese central bank is expected to keep to its negative interest rate policy while retaining its yield curve control framework, letting moves in the Japanese market be a function of the reaction towards the Fed.

Elsewhere in Asia, central bank meetings will take place in Taiwan, the Philippines and Indonesia. In the Eurozone, watch for August CPI and the German ZEW economic sentiment survey, among others.

ABOUT THE AUTHOR: Pan Jingyi is Market Strategist, IG Singapore