28 October 2016
Janet Yellen has soothed the markets with dovish comments on potential rate moves. Photo: Bloomberg
Janet Yellen has soothed the markets with dovish comments on potential rate moves. Photo: Bloomberg

Decoding the Fed’s intentions

Some regional heads of the US Federal Reserve caused worry in the financial markets recently by suggesting that the central bank will continue to raise interest rates as planned.

However, chairwoman Janet Yellen turned the situation around as she made dovish comments in a speech this week.

Now, why is the Fed playing a mixed game?

If we see the issue from a conspiracy perspective, the Fed’s supporting actors and actresses made their remarks just to test the waters.

After seeing the reaction of the market, Yellen, the leading actor, stepped on to the stage to stop the dollar from getting stronger and prevent a downturn in the US stock market.

Does this mean we should ignore the inflation and employment data and only focus on the S&P 500 index to get a handle on the Fed’s rate moves?

I want to highlight three points in the wake of Yellen’s speech.

1. While many focus on the possibility of the US adopting zero interest rates again or launch another round of quantitative easing, I don’t think that’s the right highlight.

Listen to what Yellen said: “Even if the federal funds rate were to return to near zero, the FOMC would still have considerable scope to provide additional accommodation … specifically, forward guidance about the future path of the federal funds rate and increases in the size or duration of our holdings of long-term securities.”

In simpler words, it means the Fed will not follow the Europe and Japan way of adopting negative interest rates. That’s the key.

2. Even if the March employment data, which will be released on April 1, comes in strong, it will be seen as the consequence of the Fed’s earlier stimulus, rather than signaling the need to raise rates.

3. With the policy rate close to zero, the Fed will have room to lift only when expectations for economic growth and inflation become inarguably strong.

This article appeared in the Hong Kong Economic Journal on April 1.

Translation by Myssie You

[Chinese version 中文版]

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Columnist at the Hong Kong Economic Journal

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