With Switzerland being the first big economy to lower interest rates and the Bank of Japan rising for the first time in 17 years, central banks around the world reached a critical juncture this week.
The markets are still attempting to determine when the majority of the most powerful central banks in the world will start to ease the strict monetary policy positions they have taken over the past two years in an effort to control extremely high inflation.
The Bank of Japan stands out because it kept interest rates negative for 17 years in an effort to generate inflation and revive a stagnating economy. On Tuesday, that experiment came to an end, along with its unorthodox yield curve control and qualitative and quantitative easing programmes.
As a result of continuing talks between unionised workers and Japan Inc.—the name of the nation's highly centralised economic system—Japan is anticipating a rise in pay. Policymakers at the BOJ anticipate that rising salaries will stimulate domestic demand, which will lead to additional increases in inflation.
The medium- to long-term effects of the change may be more profound than the markets have anticipated, according to Tomoya Masanao, co-head of Pimco Japan. The main question is where Japanese inflation rates will stabilise after the pandemic.
After the historic rate turnaround by the Bank of Japan, what comes next?
“Though the BOJ reiterated its commitment to the 2% inflation target, it is improbable, in our view, that the BOJ will maintain its accommodative monetary policy indefinitely to solidly achieve its 2% target,” Masanao said.
“The BOJ’s medium-term policy adjustments will likely involve both balance sheet reduction and interest rate hikes. Despite the potential headwinds from a global economic slowdown and rate cuts from other major central banks, the BOJ is poised to reduce its extraordinarily large balance sheet slowly but surely.”
The market was taken aback on Thursday when the Swiss National Bank unexpectedly lowered its main policy rate to 1.5%, citing the likelihood that inflation will now remain below 2% for the foreseeable future.
Switzerland's central bank lowered down its predictions to 1.4% by year-end, then 1.2% in 2025 and 1.1% in 2026. The country's headline and core consumer price index inflation rates have stayed below that level since June 2023 and May 2023, respectively.
The SNB added that its decision to loosen policy was influenced by the strength of the Swiss currency.
“To the extent that inflation is falling below 2%, persistent currency strength poses a deflationary risk for the Swiss economy,” strategists at BCA Research said in a note Friday.
“Moreover, a strong CHF reduces the competitiveness of Swiss exports. This is especially true considering that the SNB highlighted weaker global economic activity as the main risk.”
As anticipated, the Federal Reserve kept interest rates unchanged on Wednesday, ranging from 5.25 to 5.25 percent. The Fed also restated its forecast for three 25 basis point rate reductions this year.
According to CME Group's FedWatch tool, market futures are pricing in about a 70% possibility that the first cut would occur during the Fed's meeting on June 11–12. The central bank's long-run policy rate forecast has been slightly raised despite forecasts of faster GDP, lower unemployment, and slightly higher-than-expected core inflation. Nevertheless, the cut expectations have persisted.
“The slight rise in the longer-run policy rate forecast is both negligible and noteworthy. It is negligible because market expectations are already much higher, but noteworthy as it reinforces the market’s recent perception that the rate-cutting cycle may be shallower than initially anticipated,” said Whitney Watson, co-head of fixed income and liquidity solutions at Goldman Sachs Asset Management, in a note.
Major central banks are expected to cut in the upcoming months, according to GSAM, despite "bumps in the inflation road."
In addition to holding rates unchanged at 5.25% on Thursday, the Bank of England sent out a strong dovish signal when two members of the Monetary Policy Committee withdrew their votes for a further 25 basis point raise. This resulted in an 8-1 split in favour of holding rates, with one member voting to reduce.
Governor Andrew Bailey added that the U.K. headline inflation rate was declining more quickly than anticipated, the labour market was cooling, and wage growth was decreasing, indicating that the fundamentals were "moving in the right direction" for an interest rate decrease.
Rate reduction will still keep the bank rate in restrictive territory, according to U.K. economist Sanjay Raja, but the MPC will be able to start modifying the degree of restrictiveness when inflation and wage pressures start to drop as a result of the changing discourse.
“The evidence needed to cut rates is less clear. While the MPC noted that ‘a further accumulation of evidence on inflation persistence would be required’ to shift the monetary policy stance, the minutes also acknowledged that members differed ‘on the extent of evidence that was likely to be needed’ for a reduction in Bank Rate,” Raja noted.
Deutsche Bank is "only just" backing down from its demand for a cut at the Bank's upcoming meeting on May 9 in light of the uncertainties surrounding the volume and breadth of proof needed. Market futures, however, only reflect a 25% probability of this happening, with most analysts placing it between June and August.
(Source:www.reuters.com)
The markets are still attempting to determine when the majority of the most powerful central banks in the world will start to ease the strict monetary policy positions they have taken over the past two years in an effort to control extremely high inflation.
The Bank of Japan stands out because it kept interest rates negative for 17 years in an effort to generate inflation and revive a stagnating economy. On Tuesday, that experiment came to an end, along with its unorthodox yield curve control and qualitative and quantitative easing programmes.
As a result of continuing talks between unionised workers and Japan Inc.—the name of the nation's highly centralised economic system—Japan is anticipating a rise in pay. Policymakers at the BOJ anticipate that rising salaries will stimulate domestic demand, which will lead to additional increases in inflation.
The medium- to long-term effects of the change may be more profound than the markets have anticipated, according to Tomoya Masanao, co-head of Pimco Japan. The main question is where Japanese inflation rates will stabilise after the pandemic.
After the historic rate turnaround by the Bank of Japan, what comes next?
“Though the BOJ reiterated its commitment to the 2% inflation target, it is improbable, in our view, that the BOJ will maintain its accommodative monetary policy indefinitely to solidly achieve its 2% target,” Masanao said.
“The BOJ’s medium-term policy adjustments will likely involve both balance sheet reduction and interest rate hikes. Despite the potential headwinds from a global economic slowdown and rate cuts from other major central banks, the BOJ is poised to reduce its extraordinarily large balance sheet slowly but surely.”
The market was taken aback on Thursday when the Swiss National Bank unexpectedly lowered its main policy rate to 1.5%, citing the likelihood that inflation will now remain below 2% for the foreseeable future.
Switzerland's central bank lowered down its predictions to 1.4% by year-end, then 1.2% in 2025 and 1.1% in 2026. The country's headline and core consumer price index inflation rates have stayed below that level since June 2023 and May 2023, respectively.
The SNB added that its decision to loosen policy was influenced by the strength of the Swiss currency.
“To the extent that inflation is falling below 2%, persistent currency strength poses a deflationary risk for the Swiss economy,” strategists at BCA Research said in a note Friday.
“Moreover, a strong CHF reduces the competitiveness of Swiss exports. This is especially true considering that the SNB highlighted weaker global economic activity as the main risk.”
As anticipated, the Federal Reserve kept interest rates unchanged on Wednesday, ranging from 5.25 to 5.25 percent. The Fed also restated its forecast for three 25 basis point rate reductions this year.
According to CME Group's FedWatch tool, market futures are pricing in about a 70% possibility that the first cut would occur during the Fed's meeting on June 11–12. The central bank's long-run policy rate forecast has been slightly raised despite forecasts of faster GDP, lower unemployment, and slightly higher-than-expected core inflation. Nevertheless, the cut expectations have persisted.
“The slight rise in the longer-run policy rate forecast is both negligible and noteworthy. It is negligible because market expectations are already much higher, but noteworthy as it reinforces the market’s recent perception that the rate-cutting cycle may be shallower than initially anticipated,” said Whitney Watson, co-head of fixed income and liquidity solutions at Goldman Sachs Asset Management, in a note.
Major central banks are expected to cut in the upcoming months, according to GSAM, despite "bumps in the inflation road."
In addition to holding rates unchanged at 5.25% on Thursday, the Bank of England sent out a strong dovish signal when two members of the Monetary Policy Committee withdrew their votes for a further 25 basis point raise. This resulted in an 8-1 split in favour of holding rates, with one member voting to reduce.
Governor Andrew Bailey added that the U.K. headline inflation rate was declining more quickly than anticipated, the labour market was cooling, and wage growth was decreasing, indicating that the fundamentals were "moving in the right direction" for an interest rate decrease.
Rate reduction will still keep the bank rate in restrictive territory, according to U.K. economist Sanjay Raja, but the MPC will be able to start modifying the degree of restrictiveness when inflation and wage pressures start to drop as a result of the changing discourse.
“The evidence needed to cut rates is less clear. While the MPC noted that ‘a further accumulation of evidence on inflation persistence would be required’ to shift the monetary policy stance, the minutes also acknowledged that members differed ‘on the extent of evidence that was likely to be needed’ for a reduction in Bank Rate,” Raja noted.
Deutsche Bank is "only just" backing down from its demand for a cut at the Bank's upcoming meeting on May 9 in light of the uncertainties surrounding the volume and breadth of proof needed. Market futures, however, only reflect a 25% probability of this happening, with most analysts placing it between June and August.
(Source:www.reuters.com)
