The Federal Reserve is the most
important central bank in the world. This is because the US dollar is the
world’s reserve currency and is therefore used in all major international
transactions. For this reason, any decision that the Fed makes ends up having
major implications around the world. For example, when the Fed raised rates
last year, the emerging market economies like Brazil, Argentina, and Turkey had
a tough period. This is because these countries have large dollar-denominated
debt. As such, if their currencies weaken and the dollar strengthens, their
interest rates payments become extremely high.
Yesterday, the Fed released the minutes
of the last meeting, which happened on March 19-20. These minutes were highly
anticipated because they would shed more light on the Fed’s decisions going
ahead.
The minutes showed that the first
topic was the normalization of the balance sheet. As you recall, in response to
the financial crisis of 2008/9, the bank moved to boost the economy by lowering
interest rates and printing money, through the process of Quantitative Easing
(QE). This led to a ballooning of the balance sheet from less than a trillion
dollars to more than $4.5 trillion. In the meeting, the officials discussed the
various options of reducing this balance sheet. At the end, they decided to
reduce the pace of the balance sheet reduction. In this plan, the bank intends
to slow the reduction of its holdings of treasuries by reducing the cap of
monthly redemptions from $30 billion to $15 billion starting from May.
Investors have been worried that the bank is doing this very fast.
The officials also discussed the
recent developments in the American and global economy. The information they
had showed that the labor market remained quiet strong, with the unemployment
rate remaining at 3.8%. The headline GDP has slowed down while consumer prices
as measured by the YoY change in the personal consumption expenditures (PCE)
has below the target of 2% in December. Industrial production has slowed down
while household spending appeared to be slowing down. The same is true with the
real residential investment. This slowdown was also seen in the real private
expenditures for business equipment and intellectual property. The US trade
deficit has widened while economic conditions in foreign markets has slowed
down. The minutes added:
After assessing current conditions and the outlook for economic
activity, the labor market, and inflation, members decided to maintain the
target range for the federal funds rate at 2-1/4 to 2-1/2 percent. Members
agreed that in determining the timing and size of future adjustments to the
target range for the federal funds rate, the Committee would assess realized
and expected economic conditions relative to the Committee’s maximum-employment
and symmetric 2 percent inflation objectives.
After the statement, the USD
index declined as shown below. This is because the members left open the chance
of cutting interest rates. Therefore, the USD could continue moving lower as
investors wait for more data from the US and around the world.
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