The Dollar Index continued to weaken on Thursday morning despite strong Existing Home Sales released on Wednesday, as signs of low productivity and slowing job growth lead to fears about the broader domestic economy
The dollar index dropped over a quarter of a percent on Thursday morning, to trade at 93.48, whilst the currency's most traded pair the EUR/USD rose to the 1.1340s.
Recent commentary from Janet Yellen raising concerns about the domestic economy - as well as the global economy - raised fears of a slow-down caused not just from forces 'without' but also from 'within'.
In addition a report from the International Monetary Fund (IMF) out on Thursday morning showed growth forecasts for the US slashed to 2.2% from 2.4% previously, in 2016. The report also said the dollar was overvalued by 10-20% and that inflation was in dnager of overshooting its 2.0% target due to Fed inaction.
Set against this weas the Existing Home Sales data in May, which came out better-than-expected, and reached a nine year peak of 5.53 million - a 1.8% rise on the previous month, which saw sales revised down to 5.43m.
In addition to the buoyant real estate market, house prices also showed a rise, increasing by 4.7% from a year earlier according to a report in the Wall Street Journal.
Nevertheless the data was not enough to stoke demand for the dollar which fell in the hours which followed.
Yellen highlights threat to domestic economic growth in semi-annual testimony
These fears might impact on the dollar if they result in an extended period of economic underperformance.
One such concern was the slowdown in the labour market, which coupled with falling investment indicated there was now a heightened risk that the domestic economy might be faltering:
“The latest readings on the labor market and the weak pace of investment illustrate one downside risk--that domestic demand might falter."
She also raised the issue of low productivity, which if prolonged and systemic might cap future growth expectations:
“In addition, although I am optimistic about the longer-run prospects for the U.S. economy, we cannot rule out the possibility expressed by some prominent economists that the slow productivity growth seen in recent years will continue into the future.”
The US strong domestic recovery has been a major source of strength in recent months during a time when exports have been subdued partly due to the strong dollar, so if the domestic economy falters that does not bode well for economy as a whole, or for the dollar.
Nevertheless, Yellen maintained her optimistic view of inflation, which she still saw rising back up to the Fed’s 2.0% target in the medium term, as soon as the drag from lower oil and commodity prices had been removed.
She also noted how recent rises in inflation had been above the pace of the previous year:
“Overall consumer prices, as measured by the price index for personal consumption expenditures, increased just 1 percent over the 12 months ending in April, up noticeably from its pace through much of last year but still well short of the Committee's 2 percent objective.”
Her comments on the recent decline in payrolls, which fell to an average 100k per month in April and May (ex Verizon strikers), from a previous 200k average, revealed the belief that these poor numbers probably only reflected a temporary throw-back, and were therefore not overly concerning.
One positive, not in the February report, was the sign that wage growth might be picking up:
“One notable development is that there are some tentative signs that wage growth may finally be picking up. That said, we will be watching the job market carefully to see whether the recent slowing in employment growth is transitory, as we believe it is.”
The Fed President was also optimistic about the outlook for China than she had been in February:
“Although concerns about slowing growth in China and falling commodity prices appear to have eased from earlier this year, China continues to face considerable challenges as it rebalances its economy toward domestic demand and consumption and away from export-led growth.”
Yellen also mentioned how markets had become more sensitive to risk and that one major event which posed a risk to global markets was the UK referendum:
“More generally, in the current environment of sluggish growth, low inflation, and already very accommodative monetary policy in many advanced economies, investor perceptions of and appetite for risk can change abruptly. One development that could shift investor sentiment is the upcoming referendum in the United Kingdom. A U.K. vote to exit the European Union could have significant economic repercussions.”
On monetary policy she maintained the line from the June FOMC that there would be one or two more 25bps rate rises in 2016 followed by up to four in 2017.
“In line with that view, most FOMC participants, based on their projections prepared for the June meeting, anticipate that values for the federal funds rate of less than 1 percent at the end of this year and less than 2 percent at the end of next year will be consistent with their assessment of appropriate monetary policy.”
The Dollar Index moderated about 20 basis points lower during and after her testimony, from 94.24 to 94.04.
Analyst Jo Jakobsen of Nordea Bank, characterized the testimony as “cautious,” saying:
“Fed Chair Yellen’s prepared remarks to the Congress offered no major surprises, striking a cautious tone in line with last week’s FOMC statement and press conference.”
Following the testimony the Nordea analyst retained the view that the Fed would enact a 25 bp rate hike in both September and December, assuming no Brexit.
Senior Economist at DNB Bank, Knut Magnusson, revised down his base case scenario to only expecting one rate rise in 2016, in September.
He mentioned the slow-down in productivity growth as contributing to a fall in Fed rate hike plans, as well as declining inflation expectations despite inflation data remaining robust.