US Dollar softens ahead of Fed rate decision – FXStreet

September 18, 2024

The US dollar is stabilizing as analysts are still debating the size of future rate cuts.
Traders will likely sit and wait until a decision is made, followed by a press conference from Fed Chairman Powell.
The US Dollar Index fell back on Wednesday after a small gain the previous day.

Ahead of the Federal Reserve’s (Fed) interest rate decision on Wednesday, the US Dollar (USD) has fallen and is trading below 101.00 as measured by the US Dollar Index (DXY). The DXY is under pressure near its yearly lows, marking a critical juncture as the Federal Open Market Committee (FOMC) prepares to answer how much the Fed needs to cut interest rates. Besides Fed Chairman Jerome Powell’s speech and press conference, the focus will be on the Summary of Economic Outlook (SEP), or dot plot, Phillips curve, which will be an opportunity for all FOMC members to express where they see the Fed’s policy rates heading in the near future. The number of expected rate cuts could be crucial in guiding market expectations.

As for economic data, the relatively light data is unlikely to make a big difference ahead of the Fed's decision on Wednesday. Markets are still split on whether to go for a 25 basis point or a 50 basis point cut, and guidance from Fed Chairman Jerome Powell during the speech could shed an entirely different light on the issue and trigger a knee-jerk reaction.

Daily Digest Market Trends: Powell's speech may trigger knee-jerk reactions

The main economic data released Wednesday were monthly building permits and housing starts. Monthly building permits surged to 1.475 million in August from 1.406 million in July. Monthly housing starts rose to 1.356 million in August, beating expectations and up from the previous reading of 1.238 million.
At 18:00 GMT, the Fed will release its interest rate decision, monetary policy statement and outline its economic forecasts.
Fed Chairman Jerome Powell will take to the stage at 18:30 GMT to make a statement, followed by a question-and-answer session.
Asian stocks closed in the positive on Wednesday. European stocks are trading slightly lower on weaker Fed expectations. U.S. stock futures are flat ahead of the open.
According to the CME Fedwatch tool, the rate cut this Wednesday is expected to be very close with a 37.0% chance of a 25 basis points (bps) cut, while a 63% chance of a 50 bps cut. At the November 7 meeting, a further 25 bps cut (if the 25 bps cut occurs this Wednesday) is expected with a 22.4% chance, while a 51.6% chance of a 75 bps cut (25 bps + 50 bps) and a 26.0% chance of a 100 bps (25 bps + 75 bps) cut in rates compared to current levels.
The 10-year U.S. Treasury yield was trading at 3.68%, recovering from a 15-month low of 3.60%.

Economic indicators

Federal Reserve Interest Rate Decisions

of Federal Reserve System The Federal Reserve Board (FRB) deliberates monetary policy and decides on interest rates at eight scheduled meetings per year. The Fed has two mandates: to keep inflation at 2% and to maintain full employment. Its primary means of achieving this is by setting interest rates, both the rate at which the Fed lends to banks and the rate at which banks lend to each other. If it decides to raise interest rates, the US Dollar (USD) tends to rise as more foreign capital inflows. If it decides to lower interest rates, the USD tends to fall as capital flows out to countries that offer higher returns. If it decides to keep interest rates unchanged, attention is focused on the tone of the Federal Open Market Committee (FOMC) statement, whether it is hawkish (anticipating higher interest rates in the future) or dovish (anticipating lower interest rates in the future).

US Dollar Index Technical Analysis: Don't be fooled

The US Dollar Index (DXY) will either remain in that range for quite some time to come or finally break out of this slump that has lasted for nearly a month. Wednesday's Fed interest rate decision will finally trigger the market to try to break out of some consolidation. With mixed convictions on the size of the rate cut, there is a risk that a knee-jerk reaction will cause the DXY to start Thursday in a tight range of 100.62 to 101.90.

The upper limit of the recent range is 101.90. Further upside would require a 1.2% surge to take the index to 103.18, with the 55-day simple moving average (SMA) approaching 102.82. The next upside is very uncertain, with the 200-day SMA at 103.80 and the 100-day SMA at 103.84, just ahead of the big 104.00 round level.

On the downside, 100.62 (December 28, 2023 low) is holding strong and has already seen the DXY bounce twice in recent weeks. If this level falls below, the next level to watch is the July 14, 2023 low of 99.58. If this level breaks, early 2023 levels could be near 97.73.

US Dollar Index: Daily Chart

Federal Reserve FAQs

Monetary policy in the United States is set by the Federal Reserve (FRB), which has two mandates: to promote price stability and full employment. Its primary tool for achieving these goals is adjusting interest rates. When prices rise sharply and inflation exceeds the Fed's 2% target, the Fed raises interest rates, increasing borrowing costs across the economy. As a result, the United States becomes an attractive place for international investors to park their funds, strengthening the US Dollar (USD). When inflation falls below 2% or unemployment is too high, the Fed may lower interest rates to encourage borrowing, which weighs on the USD.

The Federal Reserve Board (FRB) meets eight times a year, where the Federal Open Market Committee (FOMC) assesses the state of the economy and sets monetary policy. The FOMC is attended by 12 Fed officials: the seven members of the Federal Reserve Board, the President of the Federal Reserve Bank of New York, and four of the remaining 11 regional reserve bank presidents. These presidents serve rotating one-year terms.

In extreme circumstances, the Federal Reserve may resort to a policy known as quantitative easing (QE). QE is a process in which the Federal Reserve dramatically increases the flow of credit in a distressed financial system. It is a non-standard policy tool used during crises or when inflation is extremely low. It was the tool of choice for the Federal Reserve during the 2008 financial crisis. This means that the Federal Reserve prints more dollar bills and uses them to buy higher-quality bonds from financial institutions. QE typically weakens the US dollar.

Quantitative tightening (QT) is the reverse process of QE, where the Fed stops buying bonds from financial institutions, reinvesting the principal of maturing bonds and not buying new bonds, which is usually positive for the value of the US dollar.