Fed Rate Decision Looms: What Could It Mean for the US Dollar?

Traders and investors are closely watching the upcoming meeting of the US Federal Reserve, scheduled for September 19-20, as market pricing derived from the CME FedWatch tool indicates a general expectation that the central bank will maintain the federal funds rate at its current level. Several factors are contributing to this consensus.

Firstly, core inflation, a critical economic indicator, has displayed signs of moderation in recent months, despite a brief uptick in the Consumer Price Index (CPI) last month. Additionally, labor market conditions have been showing signs of cooling, and the housing market appears to be stabilizing.

These factors collectively argue for a temporary pause in interest rate adjustments.

Federal Reserve Chair Jerome Powell is expected to strike a balanced tone in his assessment of the economy, emphasizing the central bank’s commitment to data-driven decision-making.

This stance mirrors his recent message delivered at the Jackson Hole symposium, where he underscored the Fed’s readiness to respond to evolving economic conditions.

Powell left the door ajar for potential tightening measures to combat persistent inflation and above-average economic growth.

Is the Fed finished with rate hikes?

The bigger question looming over financial markets is whether the Federal Reserve has concluded its cycle of interest rate hikes. Recent robust macroeconomic data has increased the likelihood of a resurgence in economic activity, heightening concerns about renewed inflationary pressures.

Consequently, while the Fed’s decision in September might be somewhat predictable, the November meeting could be more contentious.

The trajectory of this decision will largely depend on the economic data unveiled in the coming weeks, especially the payroll and CPI figures set to be released prior to the November 1 Federal Open Market Committee (FOMC) meeting.

However, it’s not just the rate decision that will be in focus. Market participants are eagerly anticipating the release of the Summary of Economic Projections (SEP) along with the September FOMC statement.

Of particular interest is the potential adjustment in the median policy rate projection for 2023, which could see another 25 basis-point increase, aligning with the assessment made in June.

Investors will be keen to see if there is a revision to the 2024 median policy rate forecast, which stood at 4.6% in the previous June projection.

Impact of the Fed’s rate decision on the US dollar

From a market perspective, the SEP holds the key to various possible scenarios. Even a 25 basis-point shift upward would leave a significant gap of around 50 basis points with the current dovish 2024 market expectations.

Any deviation beyond this could be perceived as a hawkish signal, potentially prompting a reassessment of dovish market pricing for the next year and driving up the value of the US dollar on the global stage.

Conversely, if there are no changes to the 2024 median policy rate projections, the dollar’s recent rally may experience a temporary pause. However, this respite could be short-lived, given the potential for the US economy to outperform its global counterparts.