Morning Commentary: Framing Your Perspective

Foreign Exchange - Morning Commentary
Framing Your Perspective
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Andrew Kositkun
Andrew Kositkun
Foreign Exchange Head Trader
The Jackson Hole Economic Policy Symposium is set to kick off tomorrow.  The key topic of discussion is slated to be “Navigating the Decade Ahead: Implications for Monetary Policy.”  On the surface, this title encapsulates a broad range of topics, but the markets will be especially focused on the Fed’s framework review and any preliminary thoughts it might have.  

Specifically, the Fed appears to be leaning towards adopting some sort of average inflation targeting in its monetary policy framework.  Such a strategy would be to compensate for periods of below-target inflation by allowing for inflation overshoots above its 2% target.  Given that inflation has undershot its target for a number of years, a change to average inflation targeting could lead to lower rates for longer (when compared to the current regime) as inflation is allowed to overshoot. 

The market’s belief that the Fed could be moving to a new inflation regime stems from several Fed speakers who have hinted at trying to make up for past misses.  Further, forward guidance provided by the Fed has aligned with the adoption of inflation averaging.  This helps to explain why expectations for US rates are at or close to the current policy rate for at least the next three years even as inflation expectations have returned to near pre-pandemic levels. 

Should the US adopt inflation averaging while other banks remain on an inflation regime that targets a specific level or range, it would likely be a USD bearish move.  History has shown that the USD tends to underperform during periods of declining real rates—something that should happen with policy rates anchored amid rising inflation expectations.
HERE ARE THE KEY NEWS STORIES FROM OVERNIGHT:
  • US durable goods smashed expectations as it rose 11.2% versus market consensus for a 4.8% rise.  This positive beat was powered by automotive demand that rose 21.9% in July on the back of an 85.6% increase the prior month.  Excluding transportation, durable goods orders rose 2.4% against estimates for a 2.0% increase.  
  • What was tropical storm Laura has become a Category 3 hurricane and is expected to strengthen into a Category 4 hurricane before hitting the coastline between Louisiana and Texas this week.  According to estimates, Laura could cause up to $25 billion in damage and economic loss.
  • Japanese PM Abe is expected to hold a news conference this Friday where he is expected to address his health and the government’s actions on the pandemic.  It has been speculated that PM Abe could announce his resignation due to health issues.  The prime minister hasn’t commented on his plans, but a chronic ailment forced him to step down from an earlier term in 2007. 
  • Germany has extended its wage support program through the end of 2021. 
  • Australia’s private capital expenditures dropped -8.2% in Q2 reflecting the hit in capex from the virus.  Q2’s decline builds on the -1.6% decline in Q1.     
  • China has stepped up its American soybean purchases with the country expected to buy a record 40 million tons this year.
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