Fed speaks and revive markets – Medhat Nafie

Polls agree that the monetary tightening trend that the Fed has been leading since the outbreak of the Russo-Ukrainian war until the time of writing is returning. These expectations are reinforced by macroeconomic indicators that prove that the US has been tightening monetary policy for nearly thirty months, but the negative effects of this policy have become too great. The goal of suppressing inflation and returning to the higher target of 2% will be obliterated.

In a speech at the Fed’s annual economic conference in Jackson Hole, Federal Reserve Chairman Jerome Powell stressed that the time has come to change monetary policy. This is a serious sign that after the Fed successfully controlled the fierce wave of inflation, it is no longer possible to harm the economy by continuing to maintain the current high level of interest rates when the monetary policy objectives have been satisfactorily achieved. This is due to the recovery of global demand after a period of lockdown and recession caused by the Covid-19 pandemic.

• • •

Although the content of Powell’s detailed speech was not new or unexpected, many positive signals were extracted between the lines, and financial markets reacted strongly last Friday, knowing that these markets are the fastest to react and respond to news. The three major US stock indexes rose sharply, with the Dow Jones Industrial Average up 462.3 points, or 1.14%, the S&P 500 up 63.97 points, or 1.15%, and the Nasdaq Composite up 258 points, or 44 points, or 1.47%.

All 11 major sectors of the S&P 500 closed higher on Friday, with real estate leading the gains, up 2%. Shares of small companies and regional banks outperformed, rising 3.2% and 4.9%, respectively. In the retail sector, Ross Stores rose 1.8%, reflecting optimism about the performance of the entire sector, especially as the company raised its profit forecast for fiscal 2024 on the backdrop of Powell’s speech.

Shares of giant companies Nvidia, Apple and Tesla provided the biggest support for the price increase, while Workday also led the gains after it beat quarterly revenue expectations and announced a $1 billion stock buyback plan. The human resources software company’s shares rose 12.5%, the biggest gainer on the Nasdaq.

Gold prices rose more than 1% in a single day as the dollar and Treasury yields fell. As we have repeatedly stressed, gold’s reaction is such an increase, which is a direct result of the expected decline in the value of the US dollar, because gold is denominated in US dollars in the global market, and interest rates are lower in the global market. The depreciation of the US dollar causes the US dollar to depreciate against major currencies, and gold buyers must pay more US dollars to buy the same weight of gold bars, which means that the price of gold rises.

• • •

It was clear from Powell’s speech (the subject of this article) that she has not made a decisive decision on the size of the expected rate changes starting in September next year, nor on the target rate level at the end of the easing wave. The Fed is expected to start moving soon. But Powell said that these issues will be determined in turn by the data, referring to growth and employment data in the United States on the one hand, and inflation data on the other. In this context, the Fed is looking for a decline or stability in the inflation rate and an improvement in growth and employment indicators, but the latest data have been disappointing.

As for the global economic indicators of potential slowdown, they are secondary issues in the eyes of the Fed and will not affect its decision-making unless they are reflected in the US economy itself. China, once seen as the main engine of global economic growth, is now struggling in the real estate economic crisis and restructuring from within, which shows the severity of the economic situation. The world today is more sensitive than ever to the monetary policy decisions of the United States, which makes the high interest of green money very important for debtors, raising the cost of financing in various forms and alternatives, and reflecting in these aspects. Investment costs, and then output and output growth.

For more than two years, central banks around the world have been watching the US dollar interest rate, their eyes fixed on Powell’s decisions, hints and statements, because they determine the value of their currencies and interest rates based on the results of the Fed’s decisions. Whether these currencies are pegged, pegged or floating at the US dollar… Regardless of the nature of the exchange rate regime they follow, the influence of the US dollar derives from its role in trade, debt issuance and central bank reserves… Under the influence of reverse dollarization and the expected decline in US dollar interest rates, the US dollar strength index reflects that this role seems relatively unstable in the near term.

• • •

Egypt, for its part, is expecting a fall in the US dollar interest rate so that the Central Bank of Egypt can deal with lower sources of inflation. The rise in the price of the US dollar against the Egyptian pound is one of them, the impact of which is evident through the rise in the cost of imported finished goods, intermediate goods and production inputs, thus raising the cost of commodity prices in general. Of course, there are other factors and causes for the rise in prices in Egypt, the most important and structural of which is the decline in domestic productivity, in addition to collateral causes such as the increase in the issuance of paper money, the increase in the issuance of paper money, the inflationary spiral caused by inflation. The repeated increase in nominal wages in order to chase inflation, which in some way leads to a new round of price increases… not to mention the factor of increased demand, which has a negative impact on the inflation rate. Demand caused by the increase in the number of refugees and foreign residents in Egypt.

Falling inflation and the gradual drying up of some tributaries have allowed Egypt’s monetary policy to gradually stop monetary tightening, allowing interest rates to fall to levels that encourage borrowing for investment purposes, the preferred support for growth. The most common support for Egypt’s economic growth – private consumption – is also threatened by already high inflation rates.

The flexibility and sensitivity of the market to the signals sent by the Fed is quite different from what we would expect from the statement of the Governor of the Central Bank of Egypt, which is understandable given the depth and influence of the US economy. This is unmatched by any economy in a developing country like Egypt. However, the signals sent by Egyptian monetary policy decision-makers continue to influence the direction of local markets through their impact on financing, investment and inflation costs, although fiscal policy plays a more important role at this stage and exerts a certain degree of dominance on monetary policy. Here, we must appreciate the discipline shown by the current Central Bank Governor in his speech.