Central bankers nowadays have the power to move the global markets by uttering nothing more than a brief, off-the-cuff remark. “Whatever it takes,” was Mario Draghi‘s version, which saved the euro last year. “In the next few meetings,” was Ben Bernanke’s equivalent last month. There will be rapt attention turned on the Fed chairman’s press conference on Wednesday to see whether he retracts that remark, which of course relates to the time when the Fed might start to slow the pace of its asset purchases.
Mr Bernanke does not carelessly throw out such remarks, so it would surely be incoherent for him to withdraw it completely this week. The Fed is unlikely to have been particularly troubled by the bout of market volatility seen lately. Much of it has come in foreign markets, which are not the Fed’s responsibility. Meanwhile, in the US itself, the reversal of the “reach for yield” is precisely what the Fed has been wanting to see for several months.
The killer phrase “in the next few meetings” is therefore likely to remain on the table after the press conference on Wednesday. However, the Fed chairman will hammer home exactly what he means by this message, since there are signs that it has been misunderstood by investors. In particular, the US Treasury market is sending some messages which should worry the Fed. Read more
The recent rise in eurozone equities, along with a sharp further decline in peripheral bond spreads, has occurred in the face of continuing disappointing data on economic activity. Real GDP in the eurozone seems to be declining at a 2 per cent annualised rate in the current quarter, and the pivotal German economy is showing worrying signs of being dragged into the mire with the troubled south (see this earlier blog).
Markets are in one of those periods (which usually prove temporary) where they interpret bad economic news as being good news for asset prices, because weaker growth will result in easier policy from the central banks. In the eurozone, expectations are high that the European Central Bank will deliver lower interest rates on Thursday, and specific measures designed to address the provision of liquidity to small and medium sized enterprises (SMEs) in the south seem probable.
But a more radical easing in monetary conditions may prove necessary to drag the economy out of recession, and prevent inflation from falling further below the target, which is defined as “below but close to 2 per cent”. In March, the ECB staff forecast for inflation in 2014 was 0.6-2.0 per cent, which seems barely consistent with the mandate, especially as the recession shows no sign of ending and fiscal policy is still being tightened. Any other major central bank would be urgently reviewing its options for aggressive easing, and the markets could become very disillusioned if they sense that the ECB is unwilling to do the same.
So what, realistically, can the ECB do? The following table gives a fairly comprehensive list of the options which are definitely available within the mandate [A], those which might be available if the ECB chose to interpret its mandate more widely [B], and those which are clearly unavailable under any circumstances [C]:
Mark Carney will not take up his position as governor of the Bank of England until July 1 2013, but in the interim he will be speaking frequently about monetary policy in his current role as governor of the Bank of Canada. It is inevitable that his words will now be judged in a new light, especially when he makes generic comments about monetary policy, rather than specific remarks confined to the Canadian situation.
This is why his speech on “guidance” on Tuesday was so interesting. Although he stated that this speech did not contain any direct signals about policy in Canada or anywhere else, it did give clear indications about his general thinking on the future of unconventional monetary easing. To add, his thinking appears to be different in several important respects from that of the Bank of England’s current governor and the monetary policy committee. Mr Carney is not exactly naive, and he must surely have realised his words would be interpreted in this way. Read more
It is often claimed by economists that the central banks have run out ammunition to boost economic activity, but they certainly have not lost the ability to have an impact asset prices. Since the latest round of quantitative easing was signalled back in June (see this blog), global equity prices have risen by 14.5 per cent, and commodity prices are up by 15.4 per cent, despite the fact that economic activity data have shown no improvement whatever over this period.
Clearly, these impressive moves in asset prices have been triggered by a sharp decline in the disaster premia that were priced into markets only three months ago. Mario Draghi and Ben Bernanke have, in a sense, purchased global put options on risk assets, and have offered them without charge to the investing community.
By doing the market’s hedging for it, the central bankers have certainly had an impact. Confidence, while not fully restored, is much improved, which is exactly what was intended. But there is no sign yet from hard data that the downward slide in global GDP growth has been reversed. Until that happens, the market rally will remain on insecure foundations. Read more
In the second half of 2011, the US economy appeared to buck the impact of the eurozone crisis, with American economic data surprising on the strong side in the final quarter of the year. But, as the new year begins, it seems improbable that economic activity in the US and the eurozone can remain so divergent for much longer.
Will the weakness in the eurozone eventually bring the US economy to its knees? Or will the greater resilience of the US win the day? The answer to these questions will determine whether the global economy will experience a double-dip recession in 2012.
The data released over the holiday period seem to be pointing in a more optimistic direction than markets have recognised. A year of above-trend growth certainly looks like a stretch in the present environment of fiscal tightening and global deleveraging. But the risks of a global double-dip recession appear to be receding, at least for now. Read more
The leaders of the eurozone have finally reached crunch time. This is the week in which Angela Merkel’s “grand bargain” is due to reach fulfilment at the European summit. On one side of the bargain, the eurozone will be required to accept Germany’s demand for “fiscal union”. On the other side, Germany will agree to the provision of funds to help indebted countries to remain liquid while they reduce government deficits and debt ratios, and thereby regain market access. These provisions of liquidity will come from the EFSF, which will transform into the ESM in 2013, and potentially from the ECB.
Given that fiscal union will play such a central role in this bargain, it is surprising that its exact contents have received such little examination, at least in the financial markets. What might it include, and to what extent is it desirable? Read more
The recent slowdown in the US economy raises the question of whether the growth of output may have dropped below the so-called “stall speed”. This is the growth rate at which a healthy expansion can no longer be maintained, after which the economic engine misfires and the US heads back towards recession. For as long as this risk remains, markets are likely to remain nervous, and will certainly be extremely focused on the minutiae of weekly and monthly activity data. Up to now, the data suggest that the engine of the economy has not stalled, though it is making some ominous spluttering noises. Read more
How much government debt is too much government debt? That question is pertinent in most economies today, but is especially pertinent in the US, where Congress is debating whether to raise the government debt ceiling, and if so on what terms. Unless economists can give sensible advice on the appropriate maximum level for public debt, much of the debate on budgetary policy is based on little more than political bias or, even worse, gut feeling dressed up as expert opinion. Read more
The UK GDP figures for Q4 2010 have been eagerly awaited far beyond Britain’s shores, because the country is currently being seen as a laboratory experiment in what might happen when the rest of the world tightens fiscal policy. Read more
William Dudley, the President of the New York Fed, is an intellectual heavyweight with whom I was fortunate enough to work for a couple of decades. Long experience has taught me not to ignore his views on the economy. He made an important speech last Friday, spelling out the dovish view on monetary policy which is currently held by the most senior members of the FOMC, probably including Ben Bernanke.
Although the speech was careful to go no further than the statement which followed the last FOMC meeting in September, it explained in considerable detail why the Fed now believes that inflation is too low, and why he at least also believes that a further round of QE is the right response to the situation. Read more
The second quarter GDP figures for the US were published last Friday. The financial markets do not usually get very agitated about these figures, because the official quarterly data lag the many sources of more timely information on the economy. But this is an unusually sensitive time for the US economy. Read more