Gold is higher again today as the FOMC commences their two-day meeting. The market began the week quite short and rather oversold, so it’s not surprising to see some position squaring going into the policy statement.
While the Fed is widely expected to hold steady on policy, there remains some uncertainty as to the likely tenor of the statement. Some analysts are expecting hints from the Fed that ‘lift-off’ will come sooner rather than later: Will they or won’t they remove the assurance that rates will be kept near 0% for a “considerable time”?
I think there is enough uncertainty about the true health of the U.S. economy that the dovish-leaning FOMC will remain cautious with respect to any overt shift in guidance. I’d look instead for some tweaking of the language to suggest slightly more optimism.
As I alluded to yesterday, I doubt the Fed is too keen on offering additional support to the dollar. The greenback is up nearly 7% over the last four-moths. After all, if goosing inflation and taking slack out of the labor market are your objectives, a strong currency is not the solution.
In fact, to a monetarist, those goals can best be achieved by doing the exact opposite; weakening the currency. Unfortunately, the monetarists at the ECB and BoJ are just doing that better right now than those at the Fed.
This gives the appearance of dollar strength, but in reality the recent gains in the greenback are more a function of euro and yen weakness. When you wield the hammer of monetary policy, every problem looks like a nail. Bang it down.
In The Wall Street Journal yesterday, David Wessel suggests we may be on the verge of a currency war. I would suggest the currency war is an ongoing reality, albeit with lulls and escalations of varying degrees. We may have been in a lull recently with the U.S. inclined to sit on the sidelines while Europe and Japan try to reinvigorate their ailing economies.
It won’t be good for the U.S. if Europe and Japan fall back into recession, but I suspect the Fed is loathe to shift too much of the hard-earned demand overseas. After all, the Fed paid a heavy price to win that demand as evidenced by its massive $4 trillion balance sheet.
It may in fact be time for the Fed to signal that there are indeed some risks associated with a one-way bet on diverging monetary policy. Shaking the confidence of dollar bulls and Treasury bears may be in order. That in turn would likely rattle the gold bears as well.