[ForexNews]

The Federal Reserve is likely to express increased confidence that the US economy has bottomed out in its statement after the FOMC meeting, but to remain cautious about serious headwinds. The key phrase, that the Funds rate is likely to remain exceptionally low for an extended period, will likely be retained. Market continues to expect that the Fed will not raise rates until 2011 at the earliest, given the likelihood of a sluggish recovery with persistent high unemployment and falling inflation. It is less certain but also likely that the Fed will reiterate its plans to purchase a further approximately USD 600bn of Treasury and mortgage securities, up to the total of USD 1.75trn previously announced. But some analysts expect it to announce an extension of the time window to complete the purchases, beyond December.

Some on the FOMC are nervous about the expansion of the Fed’s balance sheet in the coming months implied by continuing purchases, given the strengthening signs of an economic recovery. They are concerned that a further expansion of the balance sheet, from USD 2.1trn currently to about USD 2.5trn, will raise inflation expectations. The Fed’s balance sheet has in fact been stable since March as QE purchases have been offset by the run-off of some of the Fed’s emergency programmes, such as the commercial paper funding facility. But with these emergency programmes now dwindling, there will be little offset to QE purchases going forward. However, there still appears to be a majority on the FOMC who would like to see the recovery more firmly established before slowing down on the stimulus – especially since the totals have already been announced and any cutback could push up bond yields and the mortgage rate. Hence, they will push for a completion of the programme but extend the time window so that purchases can tail off slowly, with less disruption to the mortgage market.

New Zealand – end of recession boosts NZD
Q2 GDP data surprised on the upside and importantly, showed positive q/q growth of 0.1% (or 0.3% annualised) instead of the market consensus of -0.2%, ending the five-quarter recession. The year-on-year contraction also narrowed to 2.1%. Private spending and business investment led the charge, while a recovery in exports also added to growth. This, combined with the positive Q2 current account surplus data reported yesterday, caused NZD-USD to rocket above 0.7270