On the Minds of Investors
Are central banks back aboard the easing train?
Policy makers worldwide appear to show they are willing to act (in some cases pre-emptively) in support of fulfilling their main objectives. The last few weeks have seen most major central banks further signaling their intention to jump on the easing train to reach their goals in the face of threats from weak growth, trade uncertainty and geopolitical risks.
At their latest meeting, the European Central Bank (ECB) did not cut key rates, but mentioned that it was determined to act if the inflation outlook continued to fall short. Other comments set market expectations for a sizeable package of easing measures in the coming months, with most observers interpreting a rollout of more rate cuts and asset purchases at the September policy meeting.
The Bank of Japan (BoJ) meeting saw a similar result, remaining on hold but signaling future action. While the BoJ maintained its current policy stance without changing forward guidance, their statement saw a new addition, mentioning that the BoJ will not hesitate in taking additional easing measures to hit its price target. Similar to expectations for the ECB, the market expects these policies to be enacted in September.
After a brief pause and some speculation, the return of quantitative easing appears all but confirmed. More asset purchases along with low or even more negative rates are back on the schedule for central banks. However, with real rates already so low, what more can the market expect? There is a valid concern that policy makers are running out of tools and ammunition to deal with weak growth or meet inflation targets in an environment where interest rates are already very low. Unlike the U.S. Federal Reserve (Fed), the BoJ and ECB never saw the necessary conditions needed to return to normalization of policy after the global financial crisis. There have been rumors that now even the Fed has been reaching out to the BoJ on how their yield curve control works, which is perhaps a sign that alternative and unconventional measures will be the new standard going forward.
The number of effective tools at central bank’s disposal might very well be limited. In the case of Japan, where the BoJ is seen as already pushing ahead of the Fed and ECB in unconventional measures, a Bloomberg questionnaire asking “If the economy enters a recession by the end of March 2020, would the BoJ have enough tools left to be effective in fighting it?” saw 74% of respondents reply with “No”. Other central banks may also find it difficult to follow in the same footsteps due to practical or legal limitations in place, which is further complicated by the limited success the BoJ policy has seen. Future developments are most likely going to involve a combination of fiscal support from governments along with monetary policy to stave off recession.
EXHIBIT 1: Policy rates already low, giving central banks limited options with rate cuts
Central bank key policy rates
There is some worry that central banks are running out of options going forward. We will most likely see policy makers resorting to more unconventional tools along with the usual rate cuts to meet central bank objectives. In combination with government spending, this may still help delay the next slowdown even in an environment that is already seeing low growth, low inflation and low interest rates. This should still be supportive of growth and risky assets in general, but we remain cautious overall due to trade and geopolitical tensions.