No Drama From the FOMC

As expected, the boys over at the Fed decided to stick to the plan of buying 600 billion USD worth of U.S. Treasuries. Fed officials point to the continuous under-performance of the labor market as reason enough to implement the full package. Meanwhile, interest rates will be kept with a range of 0% to .25%, with most experts thinking the next rate hike won’t come till early 2012.

Under the program, the Fed will be purchasing about 75 billion USD every month, starting last month and will last until June next year. This will be done on top of the reinvestment of about 300 billion USD worth of mortgage backed securities, bringing the total close to about 110 billion USD each month. Clearly, the Fed is worried about the state of the economy and it feels that this round of quantitative easing is warranted.

And it looks like QE2 won’t be the end. Last week, Big Ben Bernanke said in an interview on 60 Minutes that the central bank could pull off QE3 and expand its 600 billion USD stimulus package further if data continues to fail to satisfy their expectations.

What piece of data is the Fed talking about? Hah, employment of course!

This time around, it appears that Fed officials turned their focus to the weak labor market. The Fed believes that, while the economy is indeed recovering, the pace is still too slow to prop up job growth. We saw just how weak the U.S. labor market is earlier this month, when the non-farm payrolls disappointed and came in terribly way below forecast.

Inflation also remains subdued, which means that there really isn’t anything stopping the Fed from engaging in QE3 or even QE4!

But enough negativity for now. Let’s turn to how the Fed’s stance and take on the economy could possibly affect the U.S. dollar.

If you recall, the idea of QE2 was initially bearish for the dollar. In fact, the dollar was on a downhill road in the days leading to the Fed’s official announcement. But the minute the Fed announced its decision to take on further quantitative easing, investors turned bullish, and the dollar has been climbing since. Yesterday, we witnessed it gain ground yet again as the Fed reaffirmed its initial decision.

From the way the markets have reacted to all of this, it could be said that the negative aspects of QE2 have already been largely priced in the initial dollar selloff. Lately, we’ve also been seeing other themes, such as the European debt drama, dominate the markets and give the dollar a hand.

Hmm… Either I’m experiencing de ja vu, or I’ve seen this scenario before. Do you remember late last year, when the dollar had been losing, only for the European debt drama to take over and give the dollar a boost?

History looks like it’s repeating itself so far… Could this mean we’ll see a similar trend at the start of 2011?

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