FXStreet (Delhi) – Ned Rumpeltin, European Head of FX Strategy at TDS, notes that the USD has turned in an uneven performance in the run up to the December FOMC policy meeting. Key Quotes “On the face of it, the dollar should be enjoying smooth sailing in the final days before the Fed is expected to raise interest rates for the first time in nearly a decade. Instead, the DXY is down by nearly 3% from its early-December peaks. For those who have banked on the ever-growing pull of the ‘divergence trade’, this has probably come as a real surprise.” “The ECB threw cold water on expectations for an aggressive monetary easing this month. This dealt the divergence theme a major— and early—blow. Similarly, the RBNZ also underwhelmed at its December policy meeting. In both cases, these institutions delivered the bare minimum expected by the market. While both kept their doors open to future action, underlying hawkish tones suggested any additional easing was a long way off. It is clear in our minds that these institutions have taken an important step toward neutrality. That one of the smallest and one of the largest G10 central banks have both taken this step within days of each other is rather telling, we think.” “Importantly, this leaves only one G10 central bank likely to deliver additional easing in the foreseeable future. That is likely to arrive in the immediate aftermath of the Fed’s decision. We expect the Norges Bank to cut rates by 25 bps to 0.50% on 17 December. Our base case calls for policymakers to indicate more easing could be in the pipeline—we think in Q1 next year—but this would leave Norway as a lone outlier in this regard. That suggests a risk that the Norges Bank may adopt a more neutral tone overall this week.” “Otherwise, we see the other G10 central banks demonstrating a clear preference to hold the line against further easing–if possible–for the foreseeable future. The core policy messages remain dovish, with only a handful of policymakers anywhere deviating from this line, but it is essential to watch what central banks do and not just to listen to what they say.” “On this basis, we think the vast majority of G10 central banks prefer to remain on hold for the foreseeable future—if economic and financial conditions allow it. We are confident these institutions will ease further if we see a marked deterioration in the economic outlook, but we think the threshold for action may be higher than other observers may suspect.” “Looking forward, we see three additional hikes from the Fed next year, but beyond a knee-jerk reaction we continue to see these risks as largely priced in for FX markets. That suggests to us that the Fed should become a less dominant force behind the USD at the exact time when the USD needs to do more of its own heavy lifting in order to extend its rally. At the same time, the Fed is not likely to remain the only game in town as we think the BoE will move to hike rates in May.” For more information, read our latest forex news.