Today’s announcement is significant because investors have been waiting months for the Fed chair to admit that high price pressures may linger for longer – something other central bankers have given into. Powell does not see inflation subsiding until the second half of 2022, which is why the central bank will talk about speeding up taper at its next meeting on Dec. 14-15. It may even need to consider ending taper a few months sooner than anticipated.
What makes today’s announcement so important is the timing. The COVID-19 Omicron variant is a serious risk that many scientists are still struggling to understand. As Powell put it, we won’t know more about Omicron for another week to 10 days. The Fed could have easily waited another week before making this significant shift in forward guidance, but its decision not to wait is a reflection of how worried it is about price pressures accelerating and how desperately it felt the need to prepare the market for policy change (pace of taper) next month.
Although Powell was quick to add that these assumptions do not include the risk of the Omicron variant, which it will know more about in a few weeks, it is clear from his comments today that as long as it does not cause new lockdowns in the U.S., it will normalize monetary policy quicker. Investors can expect upgrades to next month’s inflation forecasts along with more “dots” moving in favor of rate hikes next year.
Traditionally, the U.S. dollar catches a safe-haven bid from bad news, but instead of rising, the greenback weakened after Moderna’s CEO said it is very likely that current COVID-19 vaccines will be less effective against the Omicron variant. The explanation for this counterintuitive move is simple – it is only a matter of time before cases of the Omicron variant are found in the U.S., at which point everyone will begin speculating about the local and national response. Even if new restrictions and lockdowns do not return, consumers could retreat before the holidays, leading to less shopping, cancelled trips and a reduction in other end-of-year expenditures. The risk to the U.S. economy could be significant, which explains why some investors are selling first.
