Central bankers continue to walk the tightrope

Historically the actions of central banks are probably the single most important influence on capital markets, and three of the biggest, the Federal Reserve, the BOJ and the ECB met this week. Of the three one was expected to do nothing, one was expected to tighten, and the jury was out on what the third might announce. The first one, the US, raised interest rates as expected, and the Fed dot plot chart suggests they may now go for two further this year. This “dot plot” is the method by which the Federal Reserve try and prepare the market for the path of interest rates, as it graphically illustrates the member's expectations. Jerome Powell was also at pains to reassure that the Federal Reserve is keen not to choke economic growth through monetary policy. The Second, the Bank of Japan meets on Friday, however, there is no expectation they will change monetary policy. The question was what the ECB would announce and if they will signal the withdrawal of their bond purchase program? 

In the end, they did announce that the monetary stimulus will continue to be wound down, however, will remain in place till December. Interest rates will not change before this time next year. The equity markets dipped initially last night as the Fed statement was considered slightly more hawkish than expected. The euro dipped as the ECB statement was considered more dovish than the market expected. 

It remains clear that central bankers continue to try and maintain a fine balance between being too hawkish and sending a signal that interest rates are likely to rise much faster than the markets expect. On the other hand, they don’t want too dovish and give the market the impression that they want to encourage over-leverage. 

They do seem to do rather well at present at maintaining this balance as equity markets digested the news and rallied sharply in Europe on Thursday and held their ground well in America. The NASDAQ technology index continues to make new highs. The bond market also reacts in a calm manner to the actions of the central bank. US ten-year bonds remain close to 3%. Ten-year German bund yields fell on Thursday and at 43 basis points remains hard to explain. 

Posted on June 14, 2018 .