Forex Investment and Currency Trading

The economic outlook has sharply deteriorated in the last month, despite the fall in oil prices. Market now expects the Fed to cut 50 bps this week down to 1%. Another cut of the same size looks likely at the December meeting or possibly before. After that the Fed will focus on quantitative measures, such as pushing reserves into the banks and buying up assets. It may also look at directly purchasing government bonds next year (printing money) as it does whatever is necessary to prevent the economic downturn becoming a truly major recession. But a sharp recession is already inevitable and market now forecasts a peak-to-trough decline of 3%, similar to the 1981-2 downturn.

Recession set to be sharp due to credit crunch and wealth effects

The US economy was slowing even before the latest turmoil, due to the credit crunch, falling home prices, high oil prices and the pay-back from the earlier government stimulus cheques. But, beginning in September and continuing rapidly in October, the turmoil in the financial sector has been delivering a huge shock to the economy, which is only partly offset by falling gasoline prices. The shock is working through three main channels. First, there is a huge negative confidence effect from the collapse in markets, especially the stock market. Secondly, there is a further crunch in credit availability working through. Finally, there will be serious wealth effects from the fall in the stock market.