by Bill O’Grady, Thomas Wash, and Patrick Fearon-Hernandez, CFA

[Posted: 9:30 AM EDT]

Good morning!   The FOMC meeting begins today.  The GBP continues its slide.  Here are the details:

The Fed: Although there is almost no chance the Fed won’t cut by 25 bps tomorrow, we are watching for two items.  First, Powell’s language, especially in the press conference, will be important.  The key word is “patient.”  If the statement includes the word “patience,” it will signal that this rate move is a recalibration, suggesting the policy rate overshot its equilibrium level and the move was an adjustment.  However, it won’t indicate that this cut is the start of a rate reduction cycle. If this is the outcome, markets will be disappointed and we could see equities decline.  Second, there could be action on the balance sheet.  The Fed might announce that it will end its balance sheet reduction six weeks earlier than planned.  Although modestly supportive, the action would be a dovish signal.

Regardless of what happens tomorrow, we doubt the White House will be happy about it.  The president wants a weaker dollar and he wants the Fed to engineer that outcome.  If the reserve currency nation attempts to restrict trade, its currency will appreciate.  This is because there is always demand for the reserve currency and the most effective way to acquire it is to run a trade surplus with the reserve currency nation.  The best way to prevent the currency from appreciating is for the reserve currency nation’s central bank to peg an exchange rate and adjust its balance sheet to ensure the peg holds.  This is what Switzerland’s central bank, the Swiss National Bank (SNB), has been doing relative to the EUR for the past few years.  However, such a policy essentially ends central bank independence; the SNB’s policy is completely subsumed to exchange rate policy.

Trade:  Although talks are underway, there is little movement toward a grand resolution.  As we noted yesterday, China appears to be buying some U.S. grain.  The U.S. is offering unspecified relief on tech exports.  However, beyond these two actions, not much else is happening.  As the U.S./China trade spat continues, companies have been moving supply chains out of China.  They haven’t brought production back to the U.S. but are going to other low labor cost areas, e.g., Vietnam.  This development has caught the attention of USTR Lighthizer who is now calling out Vietnam for its trade surplus with the U.S.

For those wondering if a new president would lead to a change in trade policy, we doubt it.  In fact, it may become more protectionist.  Elizabeth Warren’s recent comments on foreign policy are classic Jeffersonian (which leans isolationist) and her trade policy would probably be more protectionist than Trump’s.  What this suggests is that the president’s foreign and trade policy may be less about him and more about the direction the country is headed.

Brexit:  PM Johnson visited Scotland yesterday and got a chilly reception.  He has told the EU that he won’t engage in talks unless the EU agrees to change the current agreement, which the EU has indicated isn’t going to happen.   As the odds of a no-deal Brexit increase, the GBP is continuing to spiral lower.

A peek inside China’s foreign reserves:  For the first time ever, China has released some details about its foreign exchange holdings.  The data isn’t up-to-date (the last data available is 2014).  But, it does show the State Administration of Foreign Exchange (SAFE) reduced its dollar holdings from 79% in 2005 to 58% by 2014.  It shifted to EUR and other currencies, along with gold.

Health care transparency:  Economists have debated the problem of health care costs for some time.  Although measures to open the industry to competition should reduce costs, there are specific structures in the industry that defy standard market remedies.  It is almost impossible to comparison shop for treatment because it is difficult for the average consumer to evaluate quality.  And, even if one wanted to shop around, getting accurate price information is devilishly hard.  The Trump administration has proposed measures to disclose price information; the fact the hospital industry is upset with the proposal suggests it probably would undermine its profit structure.

Japan:  The Bank of Japan today held its monetary policy unchanged, with its benchmark short-term interest rate at -0.1%, its ceiling for 10-year bond yields at 0% and its pace of government bond buying at 80 trillion yen.  However, in a sign that the BOJ is ready to join the other major central banks that have been loosening policy, the officials also vowed further monetary easing without hesitation “if the momentum towards our price stability objective is at risk.”

Hong Kong:  The deputy leader of Hong Kong reportedly apologized for the way the city’s police force responded to last week’s incident in which thugs from criminal gangs beat anti-Chinese demonstrators.  That sparked a protest by police officials, possibly pointing to cleavages within the municipal government regarding how to handle the ongoing political protests.

Venezuela:  Although President Nicolás Maduro still publicly embraces socialism and castigates capitalism, the government is quietly embracing free markets in an apparent last-ditch effort to help the economy and stay in power.  Private business owners say rules banning hard-currency transactions have not been enforced recently, importing has been freed, and many price controls have been dropped.  The reporting says the economy is rapidly dollarizing, while inflation has fallen from more than 100,000% last year to an expected level of several thousand percent this year.

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