FYI | May 11 2006
By Chris Shaw (Tokyo)
Overnight the US Federal Reserve lifted official interest rates in the US to 5.00%, a rise of 0.25% and one that had been widely expected.
The economics team at ANZ Banking Group notes the fact the decision itself was no surprise meant the market’s attention was focused on the outlook statement. In the bank’s view, the statement was a little softer than previous ones and so has the effect of giving the Fed more room to move in terms of future levels of interest rates.
The statement said the economic data will drive future changes, with the Fed’s own outlook being for a slight slowing in the economy in the second half of the year. While this would suggest a pause in future rate increases is likely, as the bank notes the Fed’s bias remains towards higher interest rates in coming months, so a pause is far from guaranteed.
As a result, the statement has created some uncertainty in the market, with opinions divided as to the direction of rates going forward. Bank of America agrees, noting the wording of the statement merely brings up the possibility of a pause, rather than suggesting a pause is likely. JP Morgan Chase points out while real interest rates are around the 3% mark the Fed probably considers it has an opportunity to pause in the short-term.
Deutsche Bank suggests the statement has actually raised the bar in terms of what is required to justify a further increase in rates at the next meeting in June, but it continues to rate an increase as a 2-1 chance. Morgan Stanley’s view is further increases are a close call now, but Barclays Capital takes the view the Fed won’t consider its job to be done until rates are at 5.5%, which suggests two further increases.
Analysts suggest the bond futures market in the US is factoring in a 40% chance of a further increase in June.
The higher rates provided little support to the US dollar overnight, as despite the increase the yen strengthened to around 110.5 from around 111 previously. ANZ cautions the yen’s run may slow in the short-term, as it would not be surprised if in the next few days rumours of Japanese central bank intervention to support its currency emerged.
Dennis Gartman is also more cautious on the currency markets in the short-term, suggesting too many people are now short the dollar against the yen in particular that it is overextended, which suggests a bounce is possible.