Fed Rate Rise Triggers Massive Slide in US Dollar

The Federal Reserve’s decision to raise interest rates earlier this month has triggered a landslide in the US dollar, proving once again that investors are buying the rumor and selling the fact.

On March 15, the Federal Open Market Committee (FOMC) voted to raise the target for the federal funds rate by a quarter point from 0.75% to 1.00%. It was the Fed’s second rate increase in three months. However, the central bank’s official statement provided far less enthusiasm about the economy than many investors had expected. This was reflected in the Fed’s quarterly projections, which showed very little change in the economy’s outlook.

The US dollar, which had risen steadily in the lead up to the March FOMC meeting, declined sharply after the event. The dollar index, a broad performance measure of the greenback against a basket of six peers, has declined more than 2% over the past two weeks. On Monday, it traded at fresh four-month lows.

The sharp down move in the US dollar has been accompanied by an equally large rebound in precious metals. Gold futures have recovered $60 from their March lows, and were last seen hovering around $1,260.00 a troy ounce. Silver futures have also staged a dramatic relief rally to trade near $18.00 a troy ounce.

Precious metals usually trade inversely with the dollar.

Fed officials maintained their view that interest rates will likely rise three times this year. Latest Fed Fund futures prices imply a nearly 50-50 chance of liftoff at the June 13-14 policy meeting.

The U.S. economy is gaining traction through the early part of the year, as more plentiful jobs and higher inflation feed into the central bank’s more upbeat view about the recovery. However, investors shouldn’t expect this to translate into faster growth through the first quarter.

Recent data from IHS Markit showed a moderate deceleration in private sector growth in March. The flash U.S. composite purchasing managers’ index (PMI), which tracks the performance of services and manufacturing activity, weakened to a six-month low. Markit’s chief business economist said the economy likely expanded 1.7% year-over-year in the first quarter, even more disappointing than the previous quarter’s 1.9% gain.[1]

The U.S. economy expanded just 1.6% last year. That was one percentage point below 2015 and the slowest expansion since 2011. In its most recent forecast, the Federal Reserve said it expects GDP to expand around 2% annually over the next three years. That estimate is at odds with President Donald Trump’s plan to stimulate growth at more than 3% annually.

Trump’s proposed healthcare bill failed to pass through the House of Representatives last week after dissenters within his own party refused to support it. Analysts say the healthcare flop could make it more difficult for the Trump administration to pass economic reforms in the months ahead and the US Dollar could suffer more.

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[1] IHS Markit. Markit Flash U.S. PMI.

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