Global Daily – Fed: taking sides on inflation outlook

by: Maritza Cabezas , Georgette Boele

Fed view: Divergent views on inflation – The Fed showed a hawkish tone during the June FOMC meeting, despite the weaker than expected inflation data in the past three months. However, since this FOMC meeting, comments from Fed policymakers have been mixed. On Monday, New York Fed President Dudley, a voting member, mentioned that US inflation is a “little lower than what we would like, but we think that if the labour market continues to tighten, wages will gradually pick up and with that, inflation will gradually get back to 2%.”  He was positive about the US economy and said that he was confident that the US expansion had a long way to go. As such, he hinted that he supported further tightening. In contrast, Chicago Fed President Evans, another voting FOMC member, was more dovish and mentioned that inflation has been running below target for eight years. He said he saw downside risks to the Fed’s recently released inflation projections, which forecast that PCE headline and core inflation would reach the 2% target by the end of 2018. He is in favour of demonstrating a strong commitment of hitting the inflation target “sooner rather than later”. Our view has long been that the Fed will hike one more time this year and three times next year. However, recent inflation data have increased the downside risks to this scenario. The market, as measured by Fed Funds futures, sees less than a 50% probability of a rate hike this year. (Maritza Cabezas)

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Gold market: Back on our end of June forecast – In the period 9 May to 7 June, gold prices temporarily broke above the previous high and almost touched USD 1,300 per ounce. Since then, they have dropped by 4%. Why have gold prices fallen? For a start, the failure to test USD 1,300 and break above this level resulted in investors taking profits on their long gold positions. Moreover, the drop in US 5yr and 10yr US Treasury yields has slowed down or even halted. Since  5yr and 10yr US real yields bottomed, gold prices peaked and have since then moved higher, albeit at a modest pace. This has been one of the crucial drivers for gold prices (on the way up and on the way down). Furthermore, the more hawkish than expected Fed communication has put a temporary bottom on the US dollar versus the euro and the yen. This has also weighed on gold prices. Currently, gold prices are just below our end of June forecast of USD 1,250 per ounce. Going forward we expect gold prices to stabilise between the 200-day moving average at USD 1,237 and USD 1,250 per ounce. Later in the year, we expect gold prices to edge higher towards our year-end target of USD 1,300 per ounce, as the US dollar comes under more downward pressure (Georgette Boele).