What will the Fed do next?

There are two factors that will continue to bother the FOMC. One is the possibility of a strong move higher in inflation thanks to the tax cut plans enacted by the White House. Jerome Powell’s predecessor, Janet Yellen, was already sounding a warning on the merits of engaging in more accommodative fiscal policy even as the economy improved - ‘counter-cyclical’ policies as they are known - and the continued increase in the Federal budget deficit will also concern other Fed members.

The other big unknown is the impact of trade wars. This poses the biggest risk to economic growth, since a full-blown trade war would make itself felt in consumer spending, employment figures and wage data. For now, the situation has calmed, but there are still plenty of elements that need resolving.

Despite a trimming of short positions over the past few weeks, the overall market remains significantly net short on the US dollar (USD). The latest bounce has a whiff of short-covering about it, but with the overall market still around $20 billion short of the greenback, the rebound in the price may be brief.

Last week saw the US dollar index break the downtrend line that has held since the end of December 2016. If this marks the beginning of a significant move then we would look to $91.93 and $92.75 as near-term targets, with the 2017 peak at $94.93 above this. A push back below the trendline would need a close back below $90.81, and then target $89.71 and $88.12.