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USD Slumps as Fed Signals Less Rate Hikes Ahead; AUD, NZD to Benefit Most

In a speech on Wednesday, Fed Chairman Jerome Powell signalled that US interest rates are close to “neutral.” As a result, the US dollar suffered one of its sharpest intraday falls this year.

Posted Nov 28, 2018

In a speech to the New York Economic Club on Wednesday, Federal Reserve Chairman Jerome Powell described US interest rates as being “just below . . . neutral.”

On the back of what many in the market consider to be a dovish U-turn by the Fed, the US dollar has suffered an extremely sharp intraday fall, particularly against the risk proxy that is the Australian dollar and its highly correlated partner, the New Zealand dollar—each gained nearly a cent against the greenback on pre-speech levels and when last seen on Wednesday evening were threatening multi-month highs.

“Interest rates are still low by historical standards and they remain just below the broad range of estimates of the level that would be neutral for the economy—that is, neither speeding up nor slowing down growth,” Powell told his audience.

US dollar bulls had hoped that current US interest rates, now 2–2.5 percent, were a long way from “neutral,” but that appears not to be the case. Simply put, there may be fewer hikes ahead than markets have been expecting.

In the mind of David Goldman of the Asia Times, Powell’s remarks were “as close to an about-face and double-time walk-back as the US central bank has ever undertaken absent a major financial crisis.”

“It’s also a personal victory for President Trump,” Goldman added.

Trump has made no secret of his desire for a weaker US dollar.

Like all currencies, the greenback is driven to a large extent by interest rate expectations. If traders expect lower interest rates, inflows of interest-chasing capital into the US will dry up and reverse. As US dollars are exchanged (sold) for foreign currencies, their value declines.

Wednesday’s developments are good news for riskier currencies and their proxies, which suffer the highest outflows during periods of dollar strength and higher US rates. Of the FX majors, the Australian and New Zealand dollar currencies fall into this category.

At 19:25 GMT, the Australian dollar was quoted at $0.7322, down 6.1 percent on the year against its US counterpart but up 4.3 percent over the past month.

The New Zealand dollar, now at $0.6883, remains down 3.0 percent on the year but is 7.1 percent higher than its level 7 weeks ago.

The Antipodean currencies are expected to appreciate in value throughout 2019.

Despite slipping from a 17-month high in recent weeks, against a basket of currencies the US dollar remains up nearly 10 percent on February’s lows. The greenback bought 113.5 yen on Wednesday and weakened to $1.1372 per euro.

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