central bank watch

 Central Bank Watch

 
Written by: Gary Chalik, Rab Jafri, and James Russell, DailyFX Research

Highlights of Latest Policy Meetings:

Federal Reserve

The Federal Open Market Committee decided to maintain its target rate between 0.00 and 0.25 percent at its latest meeting on January 27th.  Leaving much of the language in its policy statement unchanged, the Committee still believes that overall economic activity continues to improve but “low rates of resource utilization, subdued inflation trends, and stable inflation expectations are likely to warrant exceptionally low levels of the federal funds rate for an extended period.”  The key difference in January’s meeting was that the monetary policy action was no longer unanimous.  Voting against the policy action was Kansas City Fed Chief Thomas M. Hoenig, who stated his belief that “economic and financial conditions had changed sufficiently that the expectation of exceptionally low levels of the federal funds rate for an extended period was no longer warranted.”  As for the maintenance of the Fed’s emergency programs, the timeline remains unchanged.  The committee still plans to complete its purchases of $1.25 trillion of agency mortgage-backed securities and $175 billion of agency debt by the end of the first quarter and has already begun closing several of its emergency lending facilities.

Economic activity has abated since the FOMC meeting in December while financial markets have taken a turn for the worst.  The Standard and Poor’s 500 Index, a broad measure for US equities, has retraced over one percent between the December and January meetings.  The index also dropped 4.58 percent in the week immediately preceding the January 27th meeting.  The setback has largely been due to tightening policies in China, proposed financial regulations by U.S. President Barack Obama, and a sovereign debt crisis in Europe.  The housing sector has also deteriorated in the month since the FOMC’s last meeting with existing home sales falling 16.67 percent in December.  Likewise, personal consumption, a necessary component of a full recovery, slowed to just 0.2 percent growth in the month of December.  Those factors have kept inflation under control, as seen by consumer prices rising a modest 0.1 percent in December, keeping investors unconvinced that the FOMC will hike rates anytime soon.

FOMC Statements and Calendar at http://www.federalreserve.gov/FOMC/default.htm#calendars



European Central Bank

On February 4, 2010, the European Central Bank announced its decision to hold the key benchmark interest rate unchanged at 1.0 percent.  Citing subdued inflation expectations in the medium-term and a recovery process that is “uneven” and shows “a great level of uncertainty,” the ECB found that the current rates remained appropriate.  Recent data shows that Euro-Zone consumer prices rose 0.3 percent during the month of December and 0.9 percent over the past year, well within the central bank’s annual inflation target of 2 percent.  Overall, the latest information confirms that euro area economic activity continues to expand.  The euro area likely posted moderate growth in the fourth quarter for a second consecutive quarter and confidence indicators have continued their upward trend.  According to policy makers, the euro area has benefitted from a “turn in the inventory cycle” and an improvement in exports as the economic situation improves for the region’s trading partners.  In addition, macroeconomic stimulus and extraordinary monetary policy measures helped to stabilize the financial system and support the broad economy.

Going forward, the ECB will likely maintain a dovish tone due to concerns over high unemployment and constrained consumers, as well as a sovereign debt crisis within the region that is bordering on disaster.  Household spending increased only 0.1 percent in the third quarter, amid expectations for a 0.5 percent rise, and the region’s unemployment rate rose to 10% in December.    Consumers remain constrained by stagnant wages, high unemployment, and rising energy costs as world-wide commodity demand increases.  The biggest concern for the euro region, however, appears to be the massive fiscal deficits of the countries now referred to as the “PIGS”- Portugal, Ireland, Greece, and Spain.  Many have speculated on a bailout of Greece to maintain stability in the euro region, but ECB President Jean-Claude Trichet says that he is “confident” that the Greek government will reach its goal of a 3 percent debt-to-GDP ratio in 2012.  In order to aid with fiscal imbalances and uncertainty going forward, the ECB will likely maintain their dovish stance for the foreseeable future.

ECB news releases can be found at: http://www.ecb.eu/press/pressconf/2009/html/index.en.html



Bank of England

The Bank of England’s February 4, 2010 meeting resulted in vote to keep the key benchmark interest rate at 0.50 percent – the eleventh consecutive month in which the rate has been maintained. Additionally, in an effort to ease trading by banks and dealers, the Bank of England’s Monetary Policy Committee voted to maintain the stock of asset purchases financed by the issuance of central bank reserves at £200 billion.  Overall, the U.K. economy recorded “sluggish growth” in the final quarter of 2009, according to the Monetary Policy Committee, as the country’s GDP grew only 0.1 percent.  Household spending has improved as retail sales rose 0.3 percent in December and home prices rose 1.2 percent in January.  Policy makers remain concerned, however, that the increased spending is attributable to temporary factors and not a sign of strong economic growth.  However, the considerable stimulus and unprecedented easing of monetary policy, as well as a depreciating sterling and a recovery in U.K. exports should help support domestic activity, according to Committee members.

As for price pressures, CPI inflation has increased sharply to well above the 2 percent target set by the Committee.  Consumer prices rose 2.9 percent in the twelve months ended in December, higher than the 2.6 percent expected reading and 1.9 percent prior reading.  The rise was largely due to higher petrol price inflation and a restoration of the VAT rate to 17.5 percent.  This is especially concerning to policy makers because the underlying fundamentals of the U.K. economy do not support a rise in interest rates to ward off price pressures.  Credit conditions will likely remain restrictive, while the need to strengthen public and private sector finances will also weigh on economic growth.  In light of the uncertain economic conditions in the U.K., policy makers feel that it is appropriate to maintain their especially-low rates.  The Committee will “continue to monitor the appropriate scale of the asset purchase program” and further purchases are possible should the economic outlook warrant them.

BOE Statements can be found at: http://www.bankofengland.co.uk/monetarypolicy/decisions.htm



Swiss National Bank

As a result of its quarterly monetary policy assessment on December 10, 2009, the Swiss National Bank has decided to maintain its expansionary monetary policy for an indefinite period of time. Accordingly, the Governing Board announced that it would be holding the target range for the three-month Libor at 0.00 percent to 0.75 percent, with keeping the target rate in the lower end of this range at 0.25 percent The SNB will discontinue its purchases of Swiss franc bonds issued by private sector borrowers, an indication that the Governing Board believes the Swiss economy is on their desired recovery path. However, outlook remains trepid as “the upturn remains fragile and there is still considerable insecurity with regard to future developments.” In the third quarter of 2009, gross domestic product grew by 1.2 percent, after four consecutive quarters of sharp contraction. Growth was supported mainly by increases in Private Consumption, Investment, and Exports, which expanded by 2.3 percent, 14.1 percent and 10.8 percent in the third quarter, respectively.

Looking ahead, the Governing Board will be apprehensive to change rates until an economic recovery is well underway. With an expected decline in GDP of 1.5 percent for 2009, the SNB is currently forecasting GDP growth between 0.5 percent and 1.0 percent for 2010. Despite GDP growth in the third quarter, demand for labor continues to wane and unemployment will likely rise; recent data shows the current Unemployment Rate at 4.2 percent, and likely to continue the upward trend since July 2008.  The UBS consumption indicator gained to 1.276 in November, its first reading above 1.00 since December 2008, suggesting that the recent gains in consumer spending could help support growth in the near-term.  Furthermore, the SNB expects that exports remain positive as the global economy improves, and the Governing Board  announced it will aid exports by “[continuing] to act decisively to prevent any excessive appreciation of the Swiss franc against the euro.” In the next meeting, there exists only a small chance of a rate hike due to continued economic weakness and low inflation expectations; deflation persisted at 0.97 percent in the third quarter.

SNB Monetary Policy press releases can be found at: http://www.snb.ch/en



Reserve Bank of Australia

In a surprise move, the Board of the Reserve Bank of Australia decided to keep the cash rate unchanged at 3.75 percent in its February meeting.  The move was unexpected as the Board had hiked the cash rate by 25 basis points at each of the last three meetings, and market swaps were pricing in a 67 percent chance of an unprecedented fourth consecutive rate increase.  The Board cited three reasons for leaving the rate unchanged – a moderate inflation level, interest rates that are no longer at exceptionally low levels, and relatively little information as to the impact of the recent rate hikes.  Inflation in Australia, as measured by the Consumer Price Index, is currently at 2.1 percent, which is right in line with the Bank’s target of 2-3 percent.  The Board believes that the rate will moderate within that range over the coming year as the effects of slow wage growth, an appreciating exchange rate, and a decrease in commodity prices keep inflationary pressures at bay.

In general, Australia has been among the fastest countries to recover from the global economic crisis.  Australia’s strong trade links with Asia, and China in particular, have supported activity in Australia while other advanced economies struggled to grow.  Now, as Chinese authorities seek to reduce the degree of stimulus to the Chinese economy, China’s strong links to Australia threaten to destabilize Australia’s recovery.  In the four weeks since Chinese authorities announced plans to curb lending and increase bank reserve requirements, the Australian Dollar has depreciated by almost 7 percent against its American counterpart and the ASX 200 Index has dropped by almost 9 percent.  Nonetheless, the Board ended the February Statement on Monetary Policy with a rather hawkish statement, stating that “it is likely that monetary policy will need to be adjusted further over time to ensure that inflation remains consistent with the target over the medium term.”  Despite the statement, markets are currently pricing in only a 21 percent probability that the Board will hike rates by another 25 basis points at its next meeting on monetary policy.             

RBA Statements on changes in monetary policy can be found at http://www.rba.gov.au/



Bank of Canada

At the conclusion of its March 2nd meeting, Bank of Canada’s policy makers left its key interest rate unchanged at 0.25 percent and pledged to hold its current policy rate constant until the end of the second quarter.  Although it was widely expected that rates would remain unchanged, the key difference has been the shift in language.  Prior to January, the Bank’s official statements have been carbon copies of the previous. However, yesterday’s statement was different, and much has changed between then and now.  

According to the Bank’s Monetary Policy Report (MPR), the economy grew at an annual rate of 5 percent in the fourth quarter of 2009, which was led by vigorous domestic spending and further recovery in exports.  Real GDP contracted for three consecutive quarters in 2009, however, the magnitude of the downturn was more modest than other major advanced economies.  In particular, domestic demand has held up much better in Canada than in the U.S and Europe.  This reflects the health of household spending and corporate balance sheets, as well as the speed and scale of monetary policy options.  Additionally, In January, Canada’s unemployment rate fell from 8.5 to 8.3 percent.  Led by part-time positions for youth, Canada gained almost three times as many jobs as expected, pushing the unemployment rate down to its lowest since September.

While acknowledging a firm recovery in economic activity, the Bank indicated that inflation risks were no longer tilted downward and core inflation has been slightly firmer than projected.  This could potentially open the door for rate hikes in the near future.  With the flow of positive data, Bank of Canada could certainly return to policy tightening by mid-year, ahead of most other major central banks including the Federal Reserve unless inflation says something different. 

BOC press releases on monetary policy changes can be found at http://www.bankofcanada.ca/en/monetary/target.html



Reserve Bank of New Zealand

At the most recent monetary policy meeting on January 27, 2010, the Reserve Bank of New Zealand left the Official Cash Rate unchanged at 2.50 percent.  According to RBNZ Governor Alan Bollard, the outlook for the New Zealand economy remains consistent with the December projection where he stated that the economy continues to recover but there remains “considerable uncertainty about the durability of the expansion.”  The New Zealand economy has been aided by rising commodity prices and better economic conditions for its trading partners.  Demand for raw materials from New Zealand has increased in China and Australia, and has significantly boosted New Zealand’s exports.  The improved export earnings and policy stimulus have helped boost household spending in recent months as seen by a 1.8 percent rise in retail sales in November and a 2.8 percent annual gain for housing prices in December.  Furthering confidence over the economic recovery was a better-than-expected 0.8 percent rise in retail sales for the month of November as well as an increase in home sales and credit card spending over the past year.  New Zealand’s economic growth has been assisted by both monetary and fiscal support, and Governor Bollard believes that fiscal consolidation will be possible as growth becomes self sustaining.

Looking ahead, impediments to economic growth still remain and will keep policy makers reluctant to raise the 2.50 percent cash rate in the near-term.  The chief concern is domestic consumption, which remains the primary driver of New Zealand’s growth.  Households remain cautious due to subdued credit growth, lower wages, and a high rate of unemployment.  Economists expect that the unemployment rate rose to 6.8 percent in the fourth quarter of 2009, the highest reading in a decade.  In addition, Governor Bollard says that further improvement in the export market is not assured as “sustained growth throughout our trading partners is not assured, with many still facing impaired financial sectors and overall activity still reliant on policy support.”  However, if the economy continues to recover in line with December projections, policy makers expect to begin removing policy stimulus around the middle of 2010.  Consumer prices remain stable, as seen by a 2.0 percent rise in CPI over the year ended December, and financial conditions have improved, reducing the need for more immediate action.


RBNZ calendar of upcoming announcements can be found at http://www.rbnz.govt.nz/monpol/statements/0092224.html



Bank of Japan

At its January 25th meeting, policy makers at the Bank of Japan voted unanimously to leave the nation’s overnight lending rate unchanged at 0.10 percent.  Without the ability to further lower standard lending rates (at least not without taking on the unwanted label of sporting a zero-interest rate policy), the central bank is struggling to balance the burden of deflation while simultaneously supporting growth. One of the few avenues still open to the group is the extraordinary facilities that many other policy authorities are already rolling back.  In an unscheduled move this past December, bank officials unilaterally decided to launch a new fixed-rate money market operation to cover three-month funding needs.  The new three-month funding, to be lent out at 0.1%, will total Y10 trillion.  The bank said the goal of the new operation is to "encourage a further decline in longer-term interest rates," meaning it could lower money market rates for funds up to one year in maturity.  The new three-month facility is a permanent operation unlike other temporary measures designed to help Japan overcome the fallout from the global financial crisis and recession.  However, it remains to be seen whether this step can jump start lending and inflation where standard measures have fallen short. 

Tempering expectations, the BOJ policy board has projected the nation will remain under deflationary pressure for at least the next two fiscal years.  In January's interim review of its semiannual outlook report, the board stated that it expects the core consumer price index to fall by 0.5 percent in the fiscal year starting April 1, and to drop by 0.2 percent starting in April 2011.  This concern was partially borne from fears of a potential double dip recession led by worsening corporate sentiment on a surging yen and fading household consumption through rising unemployment.  They further announced they were willing to do whatever was necessary to snuff out deflation; but it is unclear what steps would be successful in accomplishing such a colossal task.

BoJ calendar of monetary policy meetings can be found at http://www.boj.or.jp/en/theme/seisaku/kettei/index.htm

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