The U.S. dollar extended its losses against the G3 currencies (euro, British pound and Japanese Yen) ahead of today’s FOMC rate decision. The Federal Reserve is widely expected to leave monetary policy unchanged, especially after this morning’s economic reports. We have seen persistent deterioration in U.S. data that will make it extremely difficult for policymakers to justify the need to taper asset purchases. This morning’s ADP number raises concerns about how much the labor market improved in April after the big deterioration in March. While the Fed is still waiting for the non-farm payrolls report, there’s a very good chance that the tone of the FOMC statement could be slightly more cautious which could add pressure on the greenback.
According to ADP, private payrolls dropped from 131K in March to 119K in April. The ISM manufacturing index also fell to its lowest level this year. At 50.7 and down from 51.3, manufacturing activity in the U.S. economy is barely expanding. While this pullback in activity is not a significant surprise because regional indices have fallen as well, it confirms that pace of recovery in the U.S. economy is far from desirable. Behind closed doors, we expect the hawks inside the Fed to back off and the doves to sing louder about the need to maintain the current level of stimulus but none of these discussions are likely to appear in the FOMC statement. Instead, we expect the statement to remain mostly unchanged because the conclusions of the Beige Book suggest that the weakness in March did not extend into April. Yet given the sharp decline in the ISM and ADP, it may be difficult for Fed officials to believe the Beige Book entirely, especially without seeing Friday’s non-farm payrolls report.
Conflicting signals in U.S. data will only widen the diverging views within the central bank, forcing the Fed to hold monetary policy steady until September and more likely December. We are eager to see if the central bank changes its assessment of the labor market from “signs of improvement” to mixed and whether they acknowledge the recent softening in economic data. If they do, it could drive the U.S. dollar lower.