Positive for US$ Vs EURO & Yen.
Forecast for policy rates in 2025 up quite sharply from Sept forecast to 3.9% from 3.4% . That would indicate fewer cuts . The FOMC expects policy rate cuts to continue into 2026 to join the neutral rate of 3.0%. I don’t buy that . I expect 3.9% to be the bottom.
The macro forecasts are blotting paper bland . Growth stays at about 2% ‘til 2027. Unemployment stays at 4.3%. . And inflation (PCE) sidles its way down to 2.0% in 2027!
The only thing to be said about this flat world is that it won’t happen! It is the macroeconomic equivalent of saying that Trump comes in and changes nothing.
The higher Fed rates forecast for 2026 did not stem from any consideration of the neutral rate. The long term neutral rate was increased to 3.0% from 2.9% with a wider range around it from 2.4% to 3.9%. This is not materially different from back in September. So FOMC did not focus on the issue.
So FOMC forecasts of Fed fund rates have to go on falling in 2026 to join the 3.0% neutral rate by 2027. There is nothing in the 2026 economic forecasts to justify further rate cuts. I suggest this called dodging the bullet as to what r * - the neutral rate - for the US is. And that is where the floor for rates should be set and communicated.
US r* is probably around 4% compared to 1.5% in the Eurozone - enough to justify staying short Euro given where ECB & Fed rates are starting from today.
The US high r* is supported by:
- the dynamism of the US economy (i.e it doesn’t “need” low interest rates;
- high budget deficits;
- immunity to interest rates of a corporate sector that doesn’t need to borrow from banks; and
- a relatively small banking sector in relation to GDP which reduces monetary policy transmission.
Alas! The problem with being data-driven is that you can’t have a view about anything except data, or to put it another way, a vew of anything beyond your nose.
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