LONDON (SHARECAST) - Shortly after the close of the European trading session on Thursday, the Federal Open Market Committee (FOMC) will conclude its two-day meeting and announce a monetary policy decision, followed shortly by a press conference from Fed president Ben Bernanke.
Most analysts are expecting the Fed to take action, whether through a new round of quantitative easing (QE), the extension of its low-rate policy until 2015, or both.
Expectations run high and many investors will be disappointed if the Fed simply leaves the door open to future action. Faros Trading director Brad Becthel told Reuters that the market is convinced that the Fed will do something, the question is how much.
"[One] reason why this decision matters is that it comes at a time when the economic outlook of the other two largest economies in the world is deteriorating," said Barclays analyst Guillermo Felices.
"In the euro area, the ECB has launched the Outright Market Transactions (OMT) programme to reduce periphery risks. In China, the ongoing economic slowdown has led some markets to price a deeper downturn than the stabilisation of economic growth at around 7.5% which we expect for the next few years. This means that the Fed decision cannot be seen in isolation. Indeed, if QE arrives, global currencies are likely to price in more than just risk-on, risk-off moves," he said.
Optimism eases
However, the initial euphoria for QE3 has begun to die down. Surveys suggest that most investors are largely discounting QE3 but some prominent commentary shows that not everyone is convinced.
"They haven’t tended to blow out a big new program when the markets are near highs. They kind of hold off, and they save it for when they have to come to the rescue," said Wells Fargo Advisors chief equity strategist Stuart Freeman.
"I would be inclined to think if they do something, they might suggest they’re going to do something much smaller than they have in the past and say they’ll re-evaluate it on a regular basis."
MarketWatch's global commentary editor Rex Nutting said that the Fed could use something more powerful than bonds: words. "You see, the Fed may try to change the economy by talking, not by doing. This may be a case where words speak louder than actions," Nutting said.
"The Fed is going to try to persuade investors and the public that it’s really going to keep interest rates low until the economy actually recovers all its lost ground, even if that means breaking its own informal rules about how to formulate policy in the face of rising inflationary pressures."
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