Dollar Falls as FOMC Keeps Interest Rates Unchanged

The dollar index (DXY00) fell to a 1-week low on Wednesday and finished down by -0.48%.  The dollar tumbled on Wednesday after the FOMC kept interest rates unchanged.  The dollar moved higher briefly early on Wednesday after crude oil prices surged more than +6% when President Trump said the US will “hit Iran hard” after a recent attack from Iran that targeted a US base in Jordan.  The jump in crude prices raises inflation expectations and could prompt the Fed to tighten monetary policy, a supportive factor for the dollar. 

The FOMC, as expected, kept the fed funds target range unchanged at 3.50% to 3.75% in a 9-3 vote, with Cleveland Fed President Beth Hammack, Minneapolis Fed President Neel Kashkari, and Dallas Fed President Lorie Logan voting for a quarter-point rate hike.

The post-FOMC statement said, “Economic activity is expanding at a solid pace despite elevated uncertainty that owes, in part, to the conflict in the Middle East,” adding that “productivity growth and capital investment are strong.” Inflation remains elevated “in part reflecting supply shocks that have driven price increases in certain sectors, including energy.” 

Fed Chair Warsh said, “The economy is showing impressive resilience” even with recent shocks and policymakers “will not hesitate to act” if inflation remains elevated.

Crude oil prices jumped on Wednesday after the Islamic Revolutionary Guard Corps (IRGC) said it targeted a US airbase and command center in Jordan with ballistic missiles.  The IRGC also claimed to have hit and halted three tankers attempting to transit through the Strait of Hormuz.  Meanwhile, the US and Saudi Arabia launched a joint attack on “Iran-aligned terrorists” in Iraq after the IRGC directed them to target US forces and Saudi energy infrastructure.

Diplomatic attempts to reopen the Strait of Hormuz also appear to be at an impasse.  Iranian Deputy Foreign Minister Gharibabadi said Oman’s proposal for a route through the Strait of Hormuz, with 50% under Iran’s control and 50% under Oman’s, would not address Iran’s concerns and that the inbound passage and part of the outbound channel must be entirely under Iran’s control.

The markets are discounting a 59% probability of a +25 bp rate hike at the next FOMC meeting on September 15-16.

EUR/USD (^EURUSD) rallied to a 1.5-week high on Wednesday and finished up by +0.60%.  The euro rallied on Wednesday as the dollar tumbled after the FOMC refrained from tightening monetary policy.  However, the euro was pressured slightly by Wednesday’s +6% surge in crude oil prices, which is bearish for the Eurozone economy and the euro, as Europe imports most of its energy. 

The German Jun import price index eased to 6.1% y/y from 6.8% y/y in May.

The markets are discounting a 90% chance of a +25 bp ECB rate hike at its next policy meeting on September 10.

USD/JPY (^USDJPY) fell by -0.36% on Wednesday.  The yen rose on Wednesday after the Nikkei Stock Average dropped to a 2.25-month low, boosting safe-haven demand for the yen.  Gains in the yen accelerated Wednesday afternoon when the dollar sank after the FOMC kept interest rates unchanged.  The yen also has support from the ongoing risk of intervention by Japanese authorities to support the yen.  Japanese authorities have intervened in the forex market several times in the past when the yen surpassed 160 yen/USD, as it has this week.

Gains in the yen are limited today after crude oil prices surged by more than +6%, which is negative for the Japanese economy and the yen as Japan imports more than 90% of its energy. The yen is also pressured by negative carryover from Tuesday on fiscal concerns, amid news that the Japanese government plans to cut the sales tax on food and drinks to 1% for two years.  The yen continues to suffer from weak interest rate differentials, with markets discounting only a 2% chance of a +25 bp BOJ rate hike at Friday’s policy meeting.  The BOJ’s current policy rate of 1.00% is well below the Fed’s federal funds rate target of 3.50%-3.75%.

August COMEX gold (GCQ26) on Wednesday closed down -2.40 (-0.06%), and September COMEX silver (SIU26) closed up +0.560 (+0.97%).

Gold and silver prices settled mixed on Wednesday, with gold falling to a 1-week low.  Wednesday’s +6% surge in WTI crude oil raised inflation expectations that could prompt the world’s central banks to tighten their monetary policies, a bearish factor for precious metals.  Gold prices jumped more than +$50 an ounce in post-market trading Wednesday afternoon after the dollar tumbled when the FOMC kept interest rates unchanged.

Losses in precious metals were limited as signs of escalation of US-Iran hostilities boosted some safe-haven demand for the metals after the Islamic Revolutionary Guard Corps said it targeted a US airbase and command center in Jordan with ballistic missiles. In response, the US and Saudi Arabia launched a joint attack on “Iran-aligned terrorists” in Iraq after the IRGC directed them to target US forces and Saudi energy infrastructure.  Also, President Trump said on Wednesday that the US will “hit Iran hard” after a recent attack from Iran that targeted a US base in Jordan.  

Recent fund liquidation of precious metals is bearish for prices, as long holdings in gold ETFs fell to a 10-month low last Monday, after reaching a 3.5-year high on February 27.  Also, long holdings in silver ETFs fell to a 1-year low on July 14 from the 3.5-year high posted on December 23.

Strong central bank demand for gold is supportive of gold prices, following news that bullion held in China’s PBOC reserves rose by +480,000 ounces to 75.44 million troy ounces in June, the twentieth consecutive month the PBOC boosted its gold reserves.