Federal Reserve Chairman Jerome Powell delivered a testimony before the House Financial Services Committee, addressing the anticipated impacts of tariffs on inflation and economic activity. Powell noted that the US is not in a recession and mentioned that if inflation or labour markets weaken, rate cuts might occur sooner.

The Federal Reserve is prepared to adjust policy depending on economic conditions. Although a majority within the Fed anticipates rate reductions this year, projections remain uncertain. The Fed aims to maintain price stability while ensuring a strong labour market. Jerome Powell highlighted the evolving nature of economic forecasts, pointing out that the implications of Middle Eastern geopolitics are still unclear.

Market Reaction to Powell’s Testimony

Market reactions to Powell’s testimony were noticeable, as the US Dollar Index depreciated by 0.3% on the day. The USD weakened against other major currencies, with the most substantial drop against the New Zealand Dollar. During this period, economic factors such as potential tariff impacts and labour market conditions are being closely monitored, influencing market sentiment and currency valuations.

Following Powell’s remarks, we witnessed an immediate response across currency pairs, particularly a mild yet meaningful retreat in the Dollar. The mention of potential earlier-than-expected rate cuts – if warranted by incoming data – was likely the catalyst. While we’re not currently seeing evidence of a contraction, the suggestion that rates could be eased sooner if necessary should not be dismissed as conditional filler. Rather, it implies that policymakers are preparing to act in a more nimble manner than previously suggested.

At present, the Federal Reserve doesn’t have a firm commitment to a specific timeline for rate adjustments. However, the reference to inflation softening and labour metrics possibly sliding gives us a reasonably clear idea of what they consider thresholds for turning policy. In the weeks ahead, this places even more weight on the schedule of employment reports, core PCE numbers, and CPI prints. If any of these indicators show meaningful deviation from current trends – notably a softening tilt – it may tilt the expectations curve towards a sooner policy shift.

Impact of Tariffs and Geopolitical Tensions

We also took note of Powell’s mention of tariffs and geopolitical tension – particularly in relation to the Middle East – which, while currently murky in outcome, could have outsized effects on future pricing pressures. These are not background risks anymore but inputs with the potential to alter expectations meaningfully. What’s essential now is how we interpret variations in risk pricing, as market-implied volatilities will increasingly reflect sensitivity to these variables.

From a trading standpoint, we’ve already seen reaction in G10 FX, particularly the Kiwi, which gained on the Dollar retreat. This isn’t merely speculative; rather, it underscores how even introductory remarks about flexible policy can – and do – alter positioning. Given this, one should reconsider any reliance on seasonal or historical trends and instead recalibrate exposure based on what the forward curve is telling us.

Watch how the front-end of the rates market behaves. It’s not just about pricing in cuts; it’s about how soon and how decisively those cuts might arrive. Derivative traders should observe implied vol in short-dated options, especially in FX and interest rate markets, as any shift in tone from Fed officials or the data could amplify short-term movement.

It’s evident now that pricing pressure isn’t isolated to domestic dynamics. External shocks, namely geopolitical developments, could either reinforce or counterbalance internal labour and consumption data. We remain attentive to Treasury yield movements, particularly the 2-year, as early signs of repositioning will likely appear there first.

In summary, policy remains responsive but not pre-emptive. The extent to which incoming data shifts from prior patterns could alter the policy outlook rapidly, and the market has shown a willingness to react accordingly. The message is simple: stay alert to front-loaded data, monitor depth in rate futures markets, and reassess positions regularly against changing inflation forecasts and expectations of global trade shifts.

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