USD: Santa Zvaigzne-Sproge summarises Federal Reserve meeting

The Federal Reserve Committee had a particularly challenging decision to make in the latest meeting. The Committee may have wanted to appear undisturbed by the latest events in the financial sector in the US and called it “sound and resilient”. Such a description may have been needed for the Fed to continue its monetary policy trend of raising interest rates in order to drive inflation lower in the long run. The Committee expressed its unchanged focus on a 2 percent interest rate combined with maximum employment. As a result, the Fed voted on increasing the federal funds rate by 25 basis points, which coincided with the majority of the expectations in the market at this point.
Despite the confidence in the financial system expressed by the Fed officials, a change in sentiment was noticeable when referring to future rate hikes. The Committee slightly decreased its GDP outlook for the year as well as maintained its interest rate target unchanged at 5.1% which may have been perceived by the markets as the Fed becoming less hawkish in consequence of the recent shutdowns of several US banks.
The markets reacted indistinctively with treasury yields dropping lower following the release of the statement, while US stocks reacted positively at the beginning, but lost ground closer to the end of the session with S&P500 losing 1.6% during the session. Meanwhile the US Dollar weakened against other major currencies as more dovish monetary policy and lower interest rates may be considered as bearish for the currency.
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The reason for the unclear market reaction may have been the disparity of opinions about what may be the best or most correct action considering latest events. The 25 bp interest rate hike, although smaller than previously anticipated, may further deepen the unrealized losses on the banks’ balance sheets – an important aspect in the collapse of the SVB – and further diminish the available funds to households. At the same time, a list of tools introduced by the Fed, including an injection of 300 billion USD on its balance sheet in order to handle a potential banking turmoil may signal that it is ready to take further steps not to allow a recession to start in the near future.
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