Fed Chairman Bernanke's July Testimony - Preview

WHEN
Wednesday 17 July 2013, 10:00 EST:

Ben Bernanke’s semi-annual testimony before the House Financial Services Committee

NOTE: A text of Bernanke’s speech will be released at 08:30 EST

Thursday 18 July 2013, 10:00 EST:

Ben Bernanke’s semi-annual testimony before the Senate Banking Committee

OPEN MOUTH VOLATILITY
The volatility eruption in recent weeks can largely be attributed to comments from central bankers, and it means that it would not be unreasonable to view Ben Bernanke’s semi-annual two-day testimony before Congress “with some trepidation,” according to ING’s chief economist Rob Carnell.

At the National Bureau of Economic Research conference last week, Bernanke reiterated that the Fed remains committed to “highly accommodative” monetary policy “for the foreseeable future”. The general message from Bernanke – and many other FOMC members – is that the market misinterpreted the Fed’s message a few weeks ago when it suggested that tapering of asset purchases could begin by the end of the year.

The apparent mixed-messages from the Fed have led to criticisms about its so-called ‘open mouth’ operations. Julian Jessop of Capital Economics, however, believes such criticism is unfair. “The Fed’s communications have been attempting to address at least three separate issues, often simultaneously: the timescale for tapering asset purchases under QE3, the timing of the first hike in official interest rates, and the overall stance of monetary policy thereafter,” and Jessop warns, “comments that apply to one issue are often misunderstood to apply to another.”

Given the markets’ propensity to misinterpret comments, the Fed’s June minutes should be kept in mind. The minutes suggest that although “half” of the members would like to see asset buys tapered before the end of 2013 (this includes non-voting members of the FOMC), “many” members of the committee would like to see further labour market improvements before tapering begins.

After the release of the FOMC’s June meeting minutes, and Bernanke’s speech last Wednesday, the dollar sold off, putting in its worst two-day performance since November 2011. “With the dollar tumbling and equities rising, it would seem that the risk-on-risk-off theme is once again in charge – to the detriment of the safe haven dollar,” says John Kicklighter, chief strategist at DailyFX.

US equities rallied, with the Dow Jones Industrial Average and the S&P 500 jumping to record highs. Treasuries also bounced, with yields on 10s falling from weekly highs around 2.755% to around 2.52% at one point on Friday. “Treasury yields and Fed funds futures are probably close to where the Fed feels comfortable,” believes Rob Carnell, “so [Bernanke] probably won’t want to risk a new sell-off.”

WHAT TO EXPECT
The general expectation is that Bernanke won’t drop any new surprises, instead choosing to reiterate the Fed’s message. Vincent Chaingneau, an analyst at Societe Generale, says “the market has already adjusted to softer talk from Bernanke, and we don’t see further dovish surprises in his testimony.”

John Zhu, an economist at HSBC, thinks that “Bernanke is likely to repeat the QE timing guidance provided after the June FOMC meeting – that it would be appropriate to moderate the monthly pace of asset purchases later this year and that the pace of purchases could be reduced and eventually brought to zero as the unemployment rate approached 7%.”

It is worth noting, however, that during the Q&A after his National Bureau of Economic Research speech, Bernanke warned that the current unemployment situation in the US “overstates” the strength of the labour market – comments that triggered the dollar’s slide. Bernanke is likely to be asked to expand on his view of employment conditions, given that the Fed’s June minutes stated that “many members indicated that further improvement in the outlook for the labour market would be required before it would be appropriate to slow the pace of asset purchases,” and this may cause further volatility.

Julian Jessop of Capital Economics also thinks that Bernanke’s loose brand of monetary policy “should keep US and global bond yields relatively low for longer, and limit the downside for equities,” adding that “it should also provide some support to other currencies – notably sterling, and gold, which have been undermined by misplaced expectations of early Fed tightening.”

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