Question

In a state of economic boom, why does the Fed take a neutral position on the rising trend of the US$ exchnage rate? On the other hand, if the exchnage rate starts to decline in the wake of the increasing tarrif on Chinese imports to the US, imposed by the Trump administration, what policy action should the Fed take ?

Answer 1

Answer:

Neutral position describes a position taken in a market that is neither bullish nor bearish. In other words, it is insensitive to the direction of the market. Generally, when the country's economy is strong, the investors often have faith that the uptrend will continue over the long term, and play bullish in the market. Some investors want to put their investments into neutral during times of market turbulence. A neutral strategy is appropriate for both, uptrend and low trend of market, as it minimizes the portfolio risk to the lowest.

In the current case, Fed has opted for neutral position in the exchange market, even when the exchange rates were increasing. This indicates that the investor wants to have a covered risk and wants ensure returns and he is not sure about the future trend of the market and expecting a downward trend. As market turbulence is visible, it is appropriate to apply neutral strategy. It will ensure that the returns do not get affected from market swings.

And accordingly even if the exchange rate starts to decline, then it is advisable, that Fed should not change the current investing strategy i.e. he should continue the neutral position.