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Fed minutes shift focus to Jackson Hole

We already knew that last month's Federal Reserve US rate cut was likely to be a contentious decision, given the differing views that were already being voiced in the lead-up to the decision. Yesterday’s release of the minutes only served to confirm that view, and while Fed chair Jay Powell pushed the line that the reduction was a “mid-cycle adjustment”, policymakers were sharply split on the course of action to take.

While it was known from the two dissenters, Rosengren of the Boston Fed and Esther George of the Kansas City Fed, that the decision to cut wasn’t unanimous, what we didn’t know until yesterday was that two members also wanted a bigger cut of 50bps, largely due to concerns about weak inflation. It was also clear that there was no discussion of further cuts to come. This means any decision to cut in September will have to not only convince Rosengren and George to change their minds, but also St. Louis Fed James Bullard, who has recently argued against further cuts, and Mary Daly of the San Francisco Fed who said that she doesn’t see recession as being in any way imminent.

The key takeaways in justifying the rate cut, were slowing economic activity, risk management due to cross currents in global trade and soft inflation, which rather begs the question as to whether any or all of these have deteriorated enough since that July meeting, for markets to be correct interpreting the prospect that the Fed would go for another cut in September, and if they do whether it will be 25bp or 50bp.

Judging by the reaction in bond markets, and the shorter end in particular, the prospect of a 50bp cut next month is much less of a probability, than it was 24 hours ago. Quite simply given the data, and the tone of the minutes the current economic outlook doesn’t appear to support a view that the committee would be able to coalesce around a cut the size of 50bp, whatever a hectoring President Trump would have them do.

This could be a problem given that bond markets have another 65bp of cuts priced in by year end. Either the Fed buckles in the coming weeks and follows the market, or the market is mispriced.

The US president has also been upping the ante a lot more this week, lobbing barrages of criticism in Fed chair Jay Powell’s direction, questioning his and the central bank's competence, as well as calling for a cut of 100bp. In doing so he went on to bemoan the fact that markets were paying Germany to lend it money, while bemoaning the fact that the US was paying interest. Someone should point out to him that while this may seem like a good thing, it actually isn’t, as low interest rates imply an economy in difficulty.

Despite all of the above, Fed chair Jay Powell could upend all of this with his speech at Jackson Hole tomorrow, by going all uber dovish, a dangerous play if he can't take the rest of the FOMC with him, or he could double down and push back on market expectations, reinforcing the Fed’s position as an independent central bank.

As if to reinforce the idea that negative rates aren’t the positive the US president seems to think, Japanese manufacturing flash PMI showed another contraction in July, coming in at 49.5. We’ll also get to see the latest manufacturing and services flash PMI’s from Germany and France for August this morning, and they aren’t expected to be pretty. August tends to be a quiet month anyway with factory shutdowns for maintenance and holidays. In terms of manufacturing the numbers are expected to be weak, with expectations of 43.1 for Germany and 49.5 for France, so these shouldn’t be a surprise. Thus far services activity has held up fairly well, but there is a concern this may not last. Services activity in France and Germany expanded strongly in July at 52.6 and 54.5 respectively, and is set to weaken modestly in August to 52.5 and 54.1 respectively.

These will then be followed by the latest ECB minutes and these could be instructive in the context of whether there is appetite among governing council policymakers for a restart of asset purchases, as well as further deep cuts in the deposit rate, when the ECB meets next month.

EUR/USD – continues to look weak and as such could well slip back to retest the lows at 1.1020, and on towards the 1.0800 area. Key resistance sits at the 50-day MA and the 1.1250 area. We need to overcome the 1.1280 level to retarget the June peaks.

GBP/USD – needs to break above the 1.2230 area to push towards the 1.2400 area. Support remains down the recent two-year lows at 1.2015, and while above the pound looks vulnerable to a move higher. We still have major support sitting at the 1.1980 area.

EUR/GBP – a potential weekly reversal after the multi-year high at 0.9325 last week, raises the prospect that the top might be in, and we could see move back to 0.9000. We currently have resistance at 0.9180, but need to break back above 0.9230 to retest the highs.

USD/JPY – resistance at the 107.00 area, with a break above the 107.20 level arguing for a move back to the 108.20 area. We still remain vulnerable to a move towards the flash crash lows this year at 104.70, while below 107.20.


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