China Related Market Events Confuse The Fed?

1838 WordsSep 1, 20158 Pages
China-Related Market Events Confuse the Fed? The Chairman of the Federal Open Market Committee (FOMC), William Dudley, appeared last week to virtually rule out any chance of an increase in the federal funds target at the 16-17 September policy meeting. As President of the Federal Reserve Bank of New York, he is probably the best qualified member of the FOMC to understand the implications of tightening US financial conditions. That having been said, Mr Dudley was careful not to entirely rule out the case for normalisation, depending on incoming information about the state of the economy. Given the short time horizon between now and the next policy meeting, however, it would seemingly require significantly stronger-than-expected data to…show more content…
This leaves, therefore, the December policy meeting as an option to begin normalisation. The advantage here is the sheer volume of incoming data the Fed will be able to analyse to discern whether more volatile financial markets have adversely affected the real economy. Ideally, the FOMC would like to simply move on with the process of restoring a neutral policy setting instead of sitting pat and accused of being held hostage by equity markets. I suspect the sheer severity of the swings we have witnessed in global equity markets has alarmed FOMC members. This could well reflect tightening US financial conditions, something the Fed would be wary of not deliberately intensifying. The level of tautness in the financial system has now returned to the same degree seen during the taper tantrum. International Backdrop Constrains the Fed Under the Bretton Woods system of fixed exchange rates and when the US dollar was fully-convertible into gold, the stance of US monetary policy was critical because other central banks were forced to follow the Fed. One of the perceived advantages of floating exchange rates is, therefore, that it bestows independence in setting monetary policy. The European Central Bank and Bank of Japan have both aggressively pursued quantitative easing after the Fed ceased its own programme. Meanwhile, central banks in emerging markets,
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