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The Federal Reserve will likely leave interest rates unchanged once again. The focus will be on the statement, in any change of tone found there. Will the Fed hint about QE3? Here are 5 reasons why this is unlikely. FOMC Preview with 3 scenarios for the dollar.

Ben Bernanke and his colleagues are discussing monetary policy just after the historic downgrade of the US and another peak in the US debt crisis. But not all is lost.

The Fed is expected to dedicate more attention to the worrying figures that came out of the US recently, including the almost non-existent growth, the job market weakness and the signs of recession coming from the manufacturing sector.

Tightening is of course out of the question: no rate moves and no hints of stopping the current contingent program of QE2 Lite – buying maturing assets.

What about QE3?  This is unlikely, and here are 5 reasons:

  1. Labor market: Weekly jobless claims have stabilized at a lower level, and Non-Farm Payrolls have finally shown a significant gain. No, this is far from what is needed, but not so gloomy.
  2. Debt ceiling deal reached: Bernanke was repeatedly warning of the grave consequences of a US default, and was already getting ready to act. Well, this is already behind us – this battle is over for the time being.
  3. S&P Outcome: The historic downgrade by S&P sent global stocks crashing, but US treasuries remain solid. No panic run was seen from the most liquid bond market in the world. There are two other major agencies that kept the US on AAA, and even in S&P, there are doubts if everybody agreed on the move.
  4. QE programs and oil prices: Apart from pushing stock prices higher, the QE programs also pushed oil and commodity prices higher. This reduces the disposable income for US households to spend and stimulate the economy. It took some time and a few other events, but since the end of QE2 at the end of June, this picture is changing.
  5. No deflation: This is the most important thing – the main goal of QE2 was to prevent deflation – a situation where prices fall, and consumers stay on the sidelines waiting for prices to continue dropping. It’s not only commodity prices that are higher, but also other components, known as “Core inflation” are higher.You can’t buy food or drive your car with Core CPI, but that is what the Fed cares about.  When asked about QE3 in the previous decision, Bernanke said that the situation is different today than one year ago in the fact that deflation risks are over. Even if oil prices continue diving, core inflation is still positive – no need for more QE.

This time, we will not have a press conference, but just a press release at 18:15 GMT.

3 Scenarios

  1. Concern but no QE3 hints: If the FOMC indeed follows this path, the dollar is set for gains against most currencies, perhaps apart from the yen and the franc.
  2. Concern and QE3 hints: If small hints about a possibility of another QE program might appear, perhaps something like “all options are on the table” the dollar will drop.
  3. Optimism and no QE3 hints: In case we still see high hopes for the second half of the year and/or a note about rising inflation the dollar will rise even in an even stronger manner, but this has very low chances.

What do you think?

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