Bernanke Talks, Dollar Tanks, 90% Chance for 50bp Rate Cut

The US dollar got killed as today’s comments from Federal Reserve President Ben Bernanke send expectations for a 50bp rate cut at the end of the month skyrocketing. We have kept you up to date with the day to day changes of rate cut expectations because they have shifted so dramatically over the past week. Two days ago, there was only a 66 percent chance that the Fed would cut by a more aggressive by 50bp, but today, Fed fund futures are pricing in a 90 percent chance that the US central bank will opt for the bigger move.

Market expectations are extremely important when it comes to the Fed’s interest rate decision because judging from recent actions by Team Bernanke they frequently bow to market pressures. More specifically, they deliver exactly what is priced in, nothing more, nothing less. This means that if 100 percent of traders are looking for a 50bp rate cut, the Federal Reserve will be worried about the consequences of under delivering in a fragile market environment. The outlook for growth is certainly not encouraging. In his speech on the economy, Bernanke barely touched on inflation and instead focused almost exclusively on growth.

He said that the 2008 outlook has worsened housing has weakened further while the deterioration in the jobs data raises the risk of softer consumer spending. As a result, Bernanke warned that they stand ready to “act in a decisive and timely manner.” Not only is further easing necessary, but we could realistically see interest rates 100 to 125bp lower this year. There was nothing positive in Bernanke’s comments which make a 50bp rate cut very likely. Wholesale inventories and sales were stronger than expected but they had no impact on the US dollar.

Tomorrow the US trade balance and import prices will be released. Weak manufacturing PMI numbers suggest that exports could be soft, which would widen the deficit.

About the author

Written by Kathy Lien, Chief Strategist, DailyFX



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