The Federal Open Market Committee wrap up their 2-day meeting today, which should provide very interesting insight into what Ben Bernanke and the other members of the Federal Reserve are more concerned about at this juncture. Ex-Fed Governor Frederic Mishkin was quoted in the Wall Street Journal recently as saying, “The Fed is boxed in.” He continued, “The slack in the economy that is likely to persist for a very long time suggests the need for simulative monetary policy.” This would argue for a continuation or expansion of the quantitative easing (QE) process through Treasury bond purchases. However, Mishkin then said that, “The fiscal situation argues against this policy action, because it would weaken the Fed’s inflation-fighting credibility.” The Fed is certainly in a tight spot and has to pick their battle.
According to Fed Funds futures contracts, the market is expecting a rate hike to .50% by the December 2009 or January 2010 FOMC meetings. This suggests that the market is expecting the Fed to switch gears to focus on fighting inflation in the near future, and will begin to raise interest rates. If they were to release a hawkish (fear of inflation) statement tomorrow and slow their Treasury purchases, the dollar should benefit at the expense of stocks and commodities. Inflation fears should ease, and the angst over aggressive monetary policy should take a back seat to fiscal policy concerns.
However, the economy is starting to show some signs of stabilization, but it is very thin ice upon which it lies and I doubt the Fed wants to light a fire right now. Plus, as Bill King of The King Report warns, “Ben [Bernanke] fears deflation.” Therefore, the market might be a little early in expecting rates to increase by this winter, especially with “Helicopter Ben” at the helm. Given his background as an expert on the Great Depression, Bernanke most likely wants to keep the pedal to the metal until real signs of growth are seen in our economy. I expect a very neutral statement from the Fed, but there’s a slight chance that they expand the QE process and provides additional support to the credit markets. In that event, it’s possible that stocks and commodities rally, while the dollar might be at risk of falling.
