In his latest congressional testimony and the following Q&A session, Federal Reserve Chairman Ben Bernanke tried to distinguish between tapering and tightening and underlined the degree of conditionality that really relates to tapering, says Jeremy Stretch, Head of Currency Strategy at the Canadian Imperial Bank of Commerce.
Bernanke has managed to outline the difference between tapering and tightening relatively well this time and certainly didn’t create the uncertainty and market panic that he did after the June 19th meeting, Jeremy noted.
Asked if he understands what the Fed is thinking about since volatility over the last few months has been quite extreme, Jeremy said the clear underlying metric is data here. Data is the key variable that will determine the degree of tapering and the timing of it. This is unchartered territory for the central bank, and the Federal Reserve has been attempting to find the best way to communicate to the market. There are bubbles being created in the equity market, which have also started to unsettle the bond market.
It has been a relatively choppy market over the course of the last two or three months. However, some might argue that by encouraging a degree of uncertainty in the bond market, the Fed has made people aware that tapering is in the cards and they should not extrapolate the mere expansion of the Fed’s balance-sheet on an ad-infinitum basis, Jeremy explained.
Asked if the Fed could be blamed for not planning its communications strategy more clearly, which, in turn, could lead to blame being laid at Janet Yellen’s door, since she’s the front-runner for the Fed chief’s position, Jeremy said communications strategy has become very important in the era of low interest rates for all the central banks. As a number of central banks make progress toward some sort of an exit strategy, things are bound to get more difficult, which puts Yellen in a relatively dangerous zone. But going by the experiences of the Bank of England and the Bank of Canada over the last six to nine months, it’s clear that favorites don’t always win the race, Jeremy observed.
Asked if the critics are being unkind to Bernanke since it has never been tried on a scale that the Fed is trying to work its way through, Jeremy said undoubtedly it’s a very difficult situation. The problem is that the markets have perceived the fact that the Fed is being seen as sort of taking a step and then waiting for the reaction and then adapting.
The markets would like to believe the Federal Reserve has got a longer term plan in terms of its both communications strategy as well as its exit strategy. The lack of any pragmatic response from the Fed has caused the current uncertainty along with the perception that Yellen and the communications strategy hasn’t been forward-looking enough and has been mainly reactive rather than setting the events.
Asked to comment on the US dollar, Jeremy said he foresees a stronger dollar though it will continue to oscillate in ranges over the next two or three months. It will gain additional traction only towards the end of the current quarter/beginning of the next quarter, as markets do get better data and the prospect over the degree of tapering. The dollar is likely to end the year appreciably stronger, which probably means waiting till the end of summer and being patient in order to put on those positions to benefit from that, he concluded.
You can watch the video here.
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