Federal Reserve signals rate cuts in 2024, dollar index slides to 4-month lows 

On Thursday, the U.S. dollar reached a new four-month low, following the Federal Reserve's announcement that it has ended its interest-rate hike cycle and anticipates to reduce borrowing costs in 2024. 

During Wednesday's Federal Open Market Committee (FOMC) meeting, Fed Chair Jerome Powell signaled that the era of tightening monetary policy is likely over, and discussions about reducing borrowing costs are now coming “into view”. The Fed is "not likely" to hike further, Powell said, adding that the central bank is "very focused on not making the mistake of keeping rates too high for too long.” Nearly all policymakers projected a decrease in borrowing costs in 2024.  

In a comment to Reuters news agency, RBC strategist Blake Gwinn said: 

"Every vehicle of Fed communication – the statement, the dots, and Powell's press conference – was unambiguously dovish. This shift was perhaps most obvious when Powell admitted that the committee discussed the appropriate timing of cuts at the meeting”. 

The US dollar index, which gauges the strength of the dollar against a basket of currencies, dropped to 102.42, its lowest since mid-August, and closed dfown 0.3% at 102.57. Stock markets rallied on the news — the Dow Jones Industrial Average scored a record close above 37,000, while S&P 500 and Nasdaq Composite both hit fresh highs for the year. 

The CME FedWatch tool now indicates a more than 85% probability of a rate cut in March, compared to 40% the previous day. Traders are estimating a one-in-five chance of a rate cut next month. 

Central bank meetings: ECB, BoE likely to hold 

Attention is now shifting to announcements from the Bank of England (BoE) and the European Central Bank (ECB), with both expected to maintain interest rates at their current levels. Markets are keenly observing any communication regarding potential policy easing in 2024. 

In a comment to Reuters, Lloyds Banking Group economist Hann-Ju Ho agreed that policymakers' guidance on next year's policy actions will be closely watched.  

Central bankers’ rhetoric attempting to push back on markets’ expectations of rate cuts have so far had limited effect, the economist said: 

"Policymakers from both central banks have made attempts to row back against recent market moves but so far with only limited effect. It is their guidance on next year's policy actions that will command attention." 

USD to JPY: Yen up against greenback after Fed meeting 

The Japanese yen was one of the currencies that strengthened on the greenback’s decline, reaching its highest level since July 31 at 140.95 yen per dollar. Trading in the USD to JPY currency pair closed approximately 0.9% higher at 141.58 yen per USD. 

The dovish FOMC meeting surprised some traders who were bearish on the yen and optimistic about the dollar, leading them to swiftly adjust their positions, according to a comment issued to Reuters by Masafumi Yamamoto, chief currency strategist at Mizuho Securities. Japanese exporters, who have yet to increase hedge ratios, are likely hurrying to make adjustments as well. 

Although expectations for the Bank of Japan (BoJ) to end negative interest rates at its upcoming monetary policy meeting have died down, Yamamoto suggests that the BoJ may make adjustments to its statement, such as emphasizing its readiness to ease further if necessary. Such changes could be seen as a step toward normalization and potentially positive for the Japanese yen. 

USD forecast: ING says drop to 101 “looms large” for DXY dollar index 

ING’s Global Head of Markets, Chris Turner, said the Federal Reserve meeting’s dovish messaging came as a surprise to markets, with further dollar weakness likely on the cards in the coming weeks: 

“Last night's FOMC release, dot plots and press conference surprised us and the markets. Instead of the Federal Reserve pushing back against the 100-125bp of rate cuts priced by the market for 2024, the overall message was a softer one. In effect, it welcomed disinflation trends and fed into the narrative that if inflation is under control, why does the US economy need very restrictive monetary policy in the form of a real policy rate above 2%? 
 
Asset markets responded very well to the prospect of the Fed releasing the handbrake on the US and global economy, with both bond and equity markets rallying broadly. For us in FX, we had not expected it this early but last night's dovish Fed shift triggered a massive bull steepening in the US curve – a move that is the centrecenter piece of our call for a broadly lower dollar next year. US two-year Treasury yields fell 30bp and the 2-10 year Treasury curve bull-steepened by 12bp. [...] 

Given the market firmly has the easing bit between the teeth, any signs of weakness in this data could trigger another leg lower in the dollar. DXY has support at 102.50/65 below which the 100.80/101.00 area looms large”. 

At the time of writing on Thursday, the DXY dollar index was 0.34% down on the day, trading around the 102.50 level. The dollar index has lost close to 1% on a year-to-date basis as of December 14. 

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