US: December Fed hike but then a Powell pause? - Westpac
Fed chair Yellen submitted her resignation this week, understandably not tempted to accept a demotion to governor – a role she was entitled to hold until 2024, but there is plenty of work to do before she hands over to Jay Powell, suggests Sean Callow, Research Analyst at Westpac.
“The week ahead includes the start of Powell’s nomination hearings in the Senate but Yellen will be the one speaking on behalf of the FOMC as she addresses Congress’ Joint Economic Committee.”
“We heard from Yellen in a more informal setting this week. She was careful as always with her words but it was still striking to hear Yellen say that while “we” expect inflation to rise over the next year or two, “I’m very uncertain about this.” Markets remain very confident about the Fed raising the funds rate to 1.25-1.50% next month. But that leaves a lot of questions unanswered about 2018.”
“The 31 Oct-1 Nov FOMC minutes revealed that while “many” members were ready to raise rates near term, “a few” others wanted to wait. As 2017 began, US core inflation was running around 1.9% y/y and the FOMC median projection was 1.8% by end-2017. Instead, the latest reading is 1.3%. So this debate may well deepen into early 2018 as Powell prepares to take the reins.”
“Short term, this is one factor in our neutral Dollar Index view. But looking at US yields since early September, the steep rise in the 2 year part of the curve has helped drive yield spreads in the dollar’s favour. In Australia’s case, this has been accentuated by lower AU yields. Soft readings on CPI and wages have played a role and this week RBA governor Lowe said that, “there is not a strong case for a near-term adjustment in monetary policy.”
“This fits Westpac’s long-held view of steady rates in 2018 but markets are still leaning towards a hike. As the chart shows, AUD/USD could have some way to fall next year, even if it stabilizes in the week ahead.”