Central Bank Interest Rate Outlook
Central Bank Watch
Written by: James Russell, Jay Steinberg, and Christopher Vecchio, DailyFX Research
Highlights of Latest Policy Meetings:
In a statement released on June 23, 2010, the Federal Open Market Committee announced its decision to maintain its target interest rate between 0.00 and 0.25 percent. The Committee continues to anticipate that “economic conditions, including 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 Consumer Price Index for May contracted by 0.2 percent in May after falling 0.1 percent in April, supporting the FOMC’s assertion that inflation in the near- and mid-term is well-contained. Furthermore, the Committee has found that “household spending is increasing but remains constrained by high unemployment, modest income growth, lower housing wealth, and tight credit.” New Home Sales dropped by 32.7 percent in May after falling by 18.7 percent in April, following the federal tax credit expiry. At the time of the meeting, the Unemployment Rate sat at 9.7 percent, but the labor market outlook remains murky given hiring and firing of Census workers over the next few months.
Going forward, it is clear that current financial conditions are “less supportive of economic growth on balance, largely reflecting developments abroad.” With a vote of 9 to 1 in the most recent meeting, with the main concern remaining ‘growth,’ it is clear that the current economic climate has been holding steadfast for the past few months. Recent economic developments warrant no change in policy at the moment, and the FOMC will utilize its tools whenever necessary to “promote economic recovery and price stability.” The voting members are likely to leave rates on hold once again at their meeting on August 10, 2010. -CV
FOMC Statements and Calendar at http://www.federalreserve.gov/FOMC/default.htm#calendars
European Central Bank
At its meeting on July 8, 2010, the Governing Council of the European Central Bank announced that it decided to leave the key interest rate unchanged at 1.00 percent. As asserted in previous introductory statements, President Trichet of the European Central Bank noted that the Governing Council believes that “price developments [will] remain moderate over the policy-relevant medium-term horizon,” and thus, current rates remain “appropriate.” Consistent price stability over the medium-term is expected to foster “sustainable economic growth, job creation, and financial stability,” but given the non-standard measures recently enacted in order to enhance credit support, ECB monetary policy will retain its ability to acute adjustments at any time if necessary.
In regards to economic activity, Eurostat estimates peg Gross Domestic Product growth at 0.2 percent in the first quarter of 2010, as economies across the region experienced strengthening during the spring. The labor market showed signs of slight improvement in May, with the Unemployment Rate falling to 10.0 percent from 10.1 percent. Although Construction Output contracted by 0.3 percent, Industrial New Orders were up 22.1 percent from the previous year, leading the Governing Council to their belief that output will “grow at a moderate and still uneven pace over time and across economies and sectors of the euro area.”
Inflationary pressures remain contained, as Eurostat HICP inflation was 1.4 percent in June, following a 1.6 percent rate in May. President Trichet noted that “inflation rates are expected to display some further volatility, with a tendency towards somewhat higher rates later in the year.” Similar to the sentiment that persisted at the previous rate decision, that energy prices were influencing inflationary pressures upwards, the Governing Council stated that “upside risks over the medium term relate, in particular, to the evolution of commodity prices.” In regards to monetary activity in the Euro-zone, the annual growth rate of the M3 Money Supply was unchanged at -0.2 percent in May, a direct result of ECB activity to drain liquidity from the market. This, coupled with the fact that the annual growth rate of loans to the private sector increased by 0.2 percent, implies that inflationary pressures “over the medium term are contained.”
Looking ahead, given a continued state of unpredictability and a muddled outlook for European money markets, the Governing Council of the European Central Bank will likely leave rates on hold at 1.00 percent. Over the next month, a stronger Euro could potentially negatively affect what has been an improving Trade Balance, while the ECB will continue with its sovereign bond purchase program in order to mop up liquidity. With price stability intact in the medium term, no change is anticipated in the main refinancing rate at their next meeting on August 5, 2010. -CV
ECB Statements can be found at http://www.ecb.int
Bank of England
On July 8th, the Bank of England’s Monetary Policy Committee voted to leave the official Bank Rate unchanged at 0.50 percent. Furthermore, the Committee voted to maintain the stock of its asset purchases financed by the issuance of central bank reserves at 200 billion pounds. The MPC has not adjusted the target interest rate since March of 2009 when it lowered the rate from 1.00 percent. The size of the asset purchase program was adjusted in last November when another 25 billion pounds worth of central bank reserves were authorized for issuance. The MPC’s decision came as little surprise to investors who expected the BoE to maintain its loose monetary policy in light of the new austerity measures published by U.K. Treasury chief George Osborne on June 22nd. Many fear that the conservative budget plan will slow the recovery that is currently underway or worse, lead to an economic stagnation. As of the MPC’s meeting, the U.K. Claimant Count Rate remained at 4.6 percent, slightly off its recent highs but still at an elevated level. Growth in Retail Sales had grown by 0.5 percent in May on a month-over-month basis and Public Sector Net Borrowing came in at 16.0 billion pounds vs. 18.0 billion pounds expected. As the first half of 2010 comes to a close, economic indicators continue to offer mixed results for the United Kingdom.
An ongoing problem for the Monetary Policy Committee has been the high level of inflation that has accompanied the disappointing economic recovery. On June 15th, a yearly measure of Consumer Price Index revealed a 3.4 percent increase in domestic prices for May. While this reading was actually lower than the 3.5 percent expected increase, it is still above the BoE’s target inflation rate. It is possible that the MPC will be forced to raise the official Bank Rate if the domestic price level continues to rise. Bank of England policy maker Andrew Sentence has repeatedly called for a 0.25 percent rate increase in order to combat rising inflation but to no avail. Other MPC members remain convinced that an increase in the target interest rate, when combined with Mr. Osborne’s new budget plan, will almost certainly dampen any progress towards a sustainable economic recovery. - JS
BOE Statements can be found at http://www.bankofengland.co.uk/monetarypolicy/decisions.htm
Swiss National Bank
On June 17, 2010, at its quarterly monetary policy meeting, the Swiss National Bank once again decided to maintain its expansionary monetary policy by holding the target range for the three-month Libor unchanged at 0.00 to 0.75 percent, while intending to hold the Libor in the lower part of the range, around 0.25 percent. The Swiss economy continues to benefit from the broadening global recovery, and now, for 2010, the SNB has revised its real GDP forecast upwards to 2.0 percent. Accordingly, in light of these “pleasing developments,” the deflationary risk present in the economy at the start of 2010 has now “largely disappeared.” The Consumer Price Index for May fell by 0.1 percent from the previous month, still gained 1.1 percent from the same period in the previous year. Furthermore, Producer Prices gained 0.3 percent In May, further supporting the Governing Council’s assertion that “short-term price stability is guaranteed.” Gross domestic product expanded less than expected in the first quarter of 2010, gaining 0.4 percent from the previous quarter versus 0.7 percent expected. Retail sales were down to 1.3 percent gains in April from the same period in 2009, and the Unemployment Rate grew to 4.0 percent. While these figure support the SNB’s determination that “uncertainty has increased since the last monetary policy assessment,” expanding Exports, which grew by 3.1 percent in April, suggest that the Swiss economy will be able to sustain slight growth going forward.
Looking forward, the Governing Board remains cautiously optimistic, though notes the prevalence of “downside risks” that remain in the economy. Inflation targets have been revised upwards for 2010 and 2011, though only slightly, on expected upwards price pressure stoked by commodities’ appreciation, as well as a general rebound in growth as interest rates remain low for the foreseeable future. While current price stability is guaranteed, assuming the three-month Libor of 25 basis points remains unchanged, “current monetary policy cannot be maintained over the entire forecast horizon without compromising medium and long-term price stability.” As such, at their scheduled meeting in September, the Governing Council is unlikely to change the target interest rate range, though beyond that time frame, the economic recovery and underlying inflationary pressures will guide the SNB. -CV
SNB Monetary Policy press releases can be found at http://www.snb.ch/en
Reserve Bank of Australia
After meeting on July 6th, the Board of the Reserve Bank of Australia decided to maintain the cash rate at 4.5 percent. After ceasing to hike rates at the last meeting, Governor Glenn Stevens announced that based on today’s economic conditions, the current lending rate need not be changed yet again. His statement, however, was perceived to be more hawkish than anticipated. While the RBA acknowledged global growth imbalances and the sovereign debt crisis of Europe as continued reasons for concern, domestic indicators remained largely positive for Australia. Commodity prices remain at “very high levels” and the country’s terms of trade are near their peak. Officials believe that heightened terms of trade will add to incomes and demand, which will keep output growth in Australia at near-trend levels despite the wearing off of previous stimulus efforts. The Governor’s assertion that growth will continue to be at trend level is a very encouraging development for the prospect of continued economic growth in Australia. Finally, the statement also mentioned that the labor market has “continued to firm gradually,” another essential component to a sustained economic recovery.
Perhaps the most important development in this month’s statement was the specific reference to domestic inflation. According to the Board, “underlying inflation appears likely to be in the upper half of the target zone over the next year.” An increase in the Consumer Price Index was attributed to new tax policy and an increase in utility prices. Australia’s target inflation rate remains around 3 percent, but with the aforementioned optimistic growth prospects, this level may soon be breached. The RBA could be forced to hike interest rates further if the increase in price level reaches an unsustainable level. However, it remains to be seen whether or not global economic concerns will slow the Australian economy, or if it will be able to sustain the impressive growth it has exhibited thus far. -JS
RBA Statements on changes in monetary policy can be found at http://www.rba.gov.au/
Bank of Canada
After its June 1, 2010 monetary policy meeting, The Bank of Canada announced that it would raise its target for the key overnight night interest from 0.25 percent to 0.50 percent. Accordingly, the Bank Rate was raised to 0.75 percent, while the deposit rate was held at 0.25 percent. These corresponding moves reestablish the normal operating bank of 50 basis points for the overnight interest rate. In order to successfully reinforce this target rate, the Bank of Canada announced that it will conduct Special Purchase and Resale Agreement (SPRA) and Sale and Repurchase Agreement (SRA) operations; these actions include lowering the targeted level of settlement balances to the “typical level of C$25 million.”
Finding that the global economy has become increasingly “uneven,” the Bank of Canada determined that a slight hike in the overnight interest rate would still leave “considerable monetary stimulus in place, consistent with achieving the 2 percent inflation target in light of the significant excess supply in Canada.” CPI remains well-within check, at 0.3 percent in April from the month previous, and 1.8 percent for the year previous. Quarterly Gross Domestic Product Annualized for the first quarter showed growth at torrid 6.1 percent rate, boosted by strong Manufacturing and Retail Sales data from March, expanding by 1.2 percent and 2.1 percent, respectively.
Going forward, the Bank of Canada has already made its position clear: “Given the considerable uncertainty surrounding the outlook, any further reduction of monetary stimulus would have to be weighed carefully against domestic and global economic developments.” While this dovish commentary points towards the unlikely of a rate hike at the next meeting, it does not completely overrule the chances of a possible further increase in the overnight right in the next few months. -CV
BOC press releases on monetary policy: http://www.bankofcanada.ca/en/monetary/target.html
Reserve Bank of New Zealand
At its most recent policy meeting, the Reserve Bank of New Zealand increased the Official Cash Rate by 25 basis points to 2.75 percent. Policy makers cited broadening economic growth as reducing the need for monetary stimulus. According to Governor Alan Bollard, economic growth of “around 3 ½ percent is expected this year and next.” He looks for the main drivers of this outlook to be improvements in exports and a stronger labor market. New Zealand’s trade surplus widened in April to NZ$656 million from NZ$590 million in March, as rising commodity prices and a seasonal increase in farm production kept exports near record levels. Furthering the positive outlook of policymakers is an expected increase in domestic residential and business investment, as well as improving economies in New Zealand’s major trading partners. Growth in Asia has remained particularly strong and the recovery in Australia and the United States has exceeded expectations.
Despite the generally optimistic rhetoric of policy officials, impediments to economic growth still exist for New Zealand and its trading partners. Governor Bullard sees “renewed turmoil in financial market” and expects continuing upward pressure on the cost of funds to the banking system. In addition, central bankers expect households to remain relatively cautious, causing the housing market and credit growth to stay subdued. REINZ home sales declined 16.2 percent in April from the year prior, while retail sales rose a worse-than-expected 0.5 percent in March from the previous month. As for inflation, Bollard states that the underlying CPI reading is expected to “track within the target range even as the economy expands further.” Given the general outlook for prices and economic growth, a removal of some monetary stimulus seemed appropriate, but further stimulus removal will be reviewed “in light of economic and financial market developments.” -JR
RBNZ calendar of upcoming announcements can be found at http://www.rbnz.govt.nz/monpol/statements/0092224.html
Bank of Japan
On June 15th, the Policy Board of the Bank of Japan decided, by unanimous vote, to maintain the target interest rate of 0.1 percent. The decision came of little surprise to market participants, as The Bank of Japan has not adjusted its overnight call rate since December of 2008 during the ongoing global economic crisis. In the most recent statement, policy makers stated that the Japanese economy continues to show signs of a “moderate recovery,” largely attributable to “overseas economic conditions.” Japanese exports and production have grown substantially thanks to improving global market conditions, particularly in emerging economies. Industrial production rose over 30 percent annually in March, while Japan’s leading index held above the 100 level in April for a second consecutive month. Additionally, policy measures have successfully stimulated private consumption, helping boost domestic GDP by 1.2 percent in the first quarter of 2010.
Despite improving economic conditions, many hurdles remain that could weaken the Japanese recovery. The employment and income situation remain concerning, although policy makers say that the degree of severity has eased somewhat. Japan’s jobless rate rose for a third consecutive month to 5.2 percent in May, its highest reading since 2009. Further concerning central bankers was the fifteenth consecutive annual decline in consumer prices in May. The CPI, which is a leading measure of yearly inflation, showed that prices declined by 1.2% in the month due to “substantial slack in the economy as a whole.” However, the Bank stated that the decline in prices has slowed and will continue to do so “as the aggregate supply and demand balance improves greatly.” Overall, the critical challenge of overcoming deflation and returning to a sustainable growth path mean that policy makers are likely to continue monetary stimulus in the short to medium-term. The Bank of Japan stated that it will aim to maintain the “extremely accommodative financial environment” in light of the most recent global economic developments. -JR
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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