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Fed Says Virus Threatens Economy, But Leaves Policy Settings Unchanged

Karl Schamotta July 29, 2020

In its latest policy decision, the Federal Reserve left interest rates unchanged and committed to using its “full range of tools to support the US economy” as the coronavirus pandemic ravages the American population – but stopped short of delivering anything resembling forward guidance.

Repeating language from the last statement, the central bank said it would continue to “increase its holdings of Treasury securities and agency residential and commercial mortgage-backed securities at least at the current pace” over the coming months. Rates will be held at current levels until policymakers are “confident that the economy has weathered recent events and is on track to achieve its maximum employment and price stability goals”.

The statement said, “The path of the economy will depend significantly on the course of the virus. The ongoing public health crisis will weigh heavily on economic activity, employment, and inflation in the near term, and poses considerable risks to the economic outlook over the medium term”.

Somewhat surprisingly, there was no acknowledgment of the change in conditions that has occurred in recent weeks. Most economists and market participants would agree that the threat level facing the US economy has risen sharply, with a surge in coronavirus infections intersecting with a looming “fiscal cliff” to depress sentiment and weigh on business investment. High-frequency data indicators – particularly card spending volumes – suggest that consumers are becoming more cautious and the recovery is losing momentum.

Commentary on fiscal policy was also studiously avoided, suggesting that Chairman Powell and his fellow committee members want to eschew any appearance of political suasion. Negotiations over the next round of coronavirus support seem to have stalled, with Republicans and their Democrat counterparts seemingly unified in disagreement with the proposed measures. Markets currently expect a watered-down version of the previous relief bill to be agreed in early August, but there is considerable uncertainty around that timeline.

The five-year Treasury is sitting near a record-low 0.25% – forcing real yields well into negative territory and putting pressure on the interest rate differentials that drive flows in the foreign exchange markets. The dollar continues to fall, with currencies like the Canadian dollar joining the euro in gaining altitude through the session.

Karl Schamotta
Chief Market Strategist

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