Fed Chairman Ben Bernanke kicked off a rally in the U.S. dollar this morning by sounding less dovish than everyone had anticipated. Coming off the heels of two abysmally weak non-farm payroll reports, investors around the world expected Bernanke to say I told you so and prepare the market for easier monetary policy this month. Instead, the Fed Chairman downplayed the deterioration in job growth by saying that it may have been exaggerated by seasonal adjustments and unusually warm weather. He sounded more moderate than dovish, causing the dollar to soar as traders reverse their QE3 bets. The Fed is still prepared to act according to Bernanke but he wants to keep the market guessing about QE3. A lot is expected to happen between now and June 20th and perhaps Bernanke is conspiring with Draghi to put additional pressure on European leaders. With FOMC voters Yellen and Lockhart committed to the idea of more stimulus, the central bank still leans towards easier monetary policy and we believe Bernanke shares this view as well but doesn't want to give away too much before the FOMC meeting and the G20. Another possibility is that these central banks are gearing up for coordinated action and want to keep it a surprise. The decline in jobless claims won't be enough to convince the Fed that additional easing isn't necessary.
The only proactive central banks are in the Asia Pacific region. The Reserve Bank of Australia cut interest rates earlier this week while the People's Bank of China cut their lending and deposit rates by 25bp this morning. Granted both of these central banks have more room to ease than the Fed or the ECB, they recognize that even if European politicians get their act together and provide a larger rescue program for the Eurozone, austerity will still kill growth, necessitating more stimulus in the future. Today's move by China is far more aggressive than prior moves involving a higher Reserve Requirement ratio and shows they are moving ahead on their promise to take steps to spur growth.
Meanwhile across the Atlantic, there are reports that Europe is working on a limited bailout plan for Spain. European leaders and finance ministers wouldn't be doing their jobs if they aren't actively exploring contingencies for Greece, Spain and the Eurozone as a whole. It was encouraging to see signs of conciliatory behavior from German Chancellor Merkel. This morning she said Germany is ready to back use of euro area instruments but unfortunately she later clarified that they back the use of current euro-area instruments and not new instruments such as Eurobonds. Spain's auction was oversubscribed today, which means that the country's fiscal problems have not deterred investments but investors still demanded a higher yield.