Monetary policy divergence to drive forex markets in 2015

November 18
1:29 PM 2014

Last month the US Federal Reserve ended its long-running bond purchase program saying that the economy no longer needed so much help. It is now considering when to raise the benchmark interest rate which have been at the near zero level since the 2008 financial crisis.

Fed Chair Janet Yellen said, ““The normalization of monetary policy will be an important sign that economic conditions more generally are finally emerging from the shadow of the Great Recession”.

New York Fed President William Dudley shared similar views and said that the start of the normalization of U.S. monetary policy “will indicate that the U.S. economy has made great strides in healing itself from the damage caused by the U.S. housing boom and bust and the financial crisis.”

Most economists expect that the Federal Reserve won’t raise the rates before mid-2015, while some others don’t foresee an increase until next fall, because of the global economy weakening.

BoJ, on the other hand, stunned the financial markets when it announced further easing in the monetary policy    in October, which further led to strong rise in the equity prices.

The European Central bank has announced a number of measures to boost economic growth in the region, these include- cutting interest rates to record lowsand commencing the purchase of covered bonds and asset backed securities (ABS). ECB President Draghi said that the central bank could use unconventional instruments including buying of sovereign bonds, if needed.

With US Fed likely to increase the interest rates by mid 2015 and ECB and BoJ keeping their monetary policy accommodative, there could be major capital flows from euro area and Japan into the US and thereby leading to further strengthening of the US dollar. Countries with higher interest rates like New Zealand and Australia will also attract such flows.

Masashi Murata, senior currency strategist at Brown Brothers Harriman in Tokyo said, “the Fed is likely to hike in the middle of next year, which is good news for dollar-bullish people, and also good to make the market more stable."

 All rights reserved Economics Monitor 2014

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