Major central bank rundown
It’s time for your central bank catch up. The link to the latest statement is at the bottom of each section, so just click there to read the bank’s central statement. Remember, there is no substitute for actually reading a central bank statement yourself and it will almost certainly be of great benefit to your trading. However, here is a summary analysis of the major central banks’ positions.
Reserve Bank of Australia, Governor Phillip Lowe, 3.10%, Meets 7 February
RBA: Inflation worries linger on wage-price spiral fear
In the prior report, it was noted that inflation would remain a worrying sign for the RBA and that does remain the case after the latest meeting. Although the RBA both hiked rates to the highest level since 2012 and at the sharpest rate since 1989, the decision was as expected. The main standouts from the meeting were the RBA’s mention of a wage price spiral, monetary policy lag, high inflation, and the need to keep hiking interest rates.
The RBA once again repeated that inflation was too high. The headline level is at 7.3% y/y and the core is at 6.1% y/y with both measures showing a steady uptrend with no obvious signs of peaking. The RBA committed to re-establishing the 2-3% inflation target, so this indicates there are most likely more rate hikes to come.
Monetary policy lag
The RBA referred to a monetary policy lag and expects to hear more of this from central banks. There is a natural delay from an interest hike working its way through the economy. So, as more and more mortgages are renewed that will slowly cool demand as households have less disposable income. This is why the RBA said, ‘Household spending is expected to slow over the period ahead although the timing and extent of this slowdown are uncertain’.
Wage price spiral
The RBA is concerned about the possibility of a wage price spiral. Remember the strong NFP last Friday? That is likely to be a theme for the central banks’ concerns. Once inflation is in wages it gets ‘hard baked’ into the economy. Central banks fear it and wages are growing in Australia. The RBA won’t like it if that continues and will mean it will need to keep hiking rates.
What does this mean for the AUD right now? Not much. This is because much of what the RBA is doing has been expected. But it does mean incoming inflation and wage data will be crucial for the path of Australia’s interest rates and the path of the AUD. A good pair for trading any significant shifts is generally the AUDNZD as a way of trading central bank divergences from the RBA and the RBNZ. Don’t forget too that the AUD tends to benefit from any significant moves for China’s economy. A strong outlook for China will boost the AUD and vice versa for a weak outlook. See full RBA statement here
European Central Bank, President Christine Lagarde, 2.00%, Meets 2 February
‘Significant’ rate hikes still to come
Inflation is stubborn, but the latest inflation data from the ECB shows good news regarding consumer inflation. Consumer expectations for inflation over the next 12 months have fallen for the first time since May 2022. Expectations for the next 12 months have fallen to 5% from 5.4% in October and expectations for three-year inflation also fell from 3% to 2.9%. This is good news and provides some relief for the ECB. If the last meeting before December had investors wondering if the ECB was slowing the pace of rate hikes the last meeting had the opposite impact. In December’s meeting, the ECB hiked by 50bps as expected, but stated that it would need to raise rates ‘significantly’ to tame inflation. This is taken to mean 50bps hikes back to back in February’s, March’s, and April’s meetings. The ECB also announced that it would start Quantitative Tightening in March this year by €15 billion per month until the end of Q2 this year. This was a hawkish message with an early start to QT and shows the ECB stepping up a gear.
The hawkish message remains in January
On January 11, ECB’s Rehn stated that the ECB needs several more ‘significant’ rate hikes. ECB’s De Cos also said that the ECB sees ‘significant’ rate hikes at coming meetings. In terms of short-term interest rate markets it expects the ECB to reach a terminal rate of 3.37% this year, but end the year with a cut down to 3.06% by December. So, according to STIR markets, that’s one rate cut this year once the terminal rate has been reached. Check out the Financial Source implied interest rate curve below from January 12:
The main takeaway
Like last time there is nothing really tradable over the medium term for the EUR. The difficulty here with trading the EUR is that there are so many uncertainties from geo-political factors to the USD, price of natural gas, and the outlook for the eurozone and whether it can avoid a coming recession. This means trading the euro is best left until there is some very clear catalyst. You can read the full ECB statement here. Combined ECB statement with press conference here.
Bank of Canada, Governor Tiff Macklem, 4.25%, Meets January 23
Has the Bank of Canada done hiking rates?
Possibly they have at the current rate of 4.25%. The Bank of Canada said as much at the end of its last rate statement that the Governing Council, ‘will be considering whether the policy interest rate needs to rise further to bring supply and demand back into balance and return inflation to target’. The decision saw a 50bps hike, which money markets had not fully priced in, but the forward guidance was dovish, so that offset any hawkish response in the CAD. From here the Bank of Canada will remain focused on inflation.
Growth to slow, but inflation is stickier
The BoC expects Canada’s growth to stall into the first half of next year. So, that argues for the BoC at peak rates. However, inflation remains very firm as highlighted running into the event on the weekly workshop. The BoC notes that the longer that ‘businesses and consumers expect inflation to be above target the greater the risk that inflation becomes entrenched’. Entrenched inflation will keep the BoC hiking. So, the BoC sees a recession in Canada and one in the US, wanting to slow down hiking rates, but inflation risks becoming entrenched, so it can’t. Money markets see the BoC hiking at its next meeting with a 39% chance of a no-change rate decision on January 25. The Bank of Canada meets next week, so expect CAD volatility if there are any big surprises. The next meeting is on January 25, 2023. You can read the full BoC statement here.
Federal Reserve, Chair: Jerome Powell, 4.375%. Meets 1 February
Federal Reserve: Is the pivot to come?
The Fed hiked by 50bps as expected, but the dot plot was what got the attention from markets. Higher rates, for longer, and Powell repeated in the press conference the need to get tough on inflation. The Dot Plot showed no rate cuts until 2023 in a hawkish surprise.
In the press conference, Powell reaffirmed the Fed’s 2% inflation target. He was pleased that recent inflation data was showing signs of falling, but Powell said that by now he would have expected faster progress on inflation. So, Powell is not yet happy with the speed of progress and has communicated that to the market. However, the bond market was not listening. However, since the meeting inflation has fallen again with both the headline and core CPI print falling lower.
This puts the pressure on the Federal Reserve to pivot. The STIR markets are pricing in 50bps rate cuts from the Fed this year and if we see a disappointing earnings season then the Fed will have even more pressure on them to cut rates this year after the terminal rate of around 5% is reached.
There is a market mismatch between what the Fed is saying and what the market believes. So, the biggest risk here is if the market is wrong. If inflation is stickier, the Fed is more aggressive, and even more rate hikes have to come a lot of folk are wrongly positioned USD short. So, a big drop in the EURUSD would be the obvious trade to come on February 1 if the Fed uses that platform to push back sharply against Fed pricing. See the key level to be aware of on the weekly chart. See December’s full Fed statement here
Bank of England, Governor Andrew Bailey, 3.50%, Meets February 1
GBP rebounds as peak bleak narrative is priced in
After the fiscal pain was signalled from the UK’s budget last year on November 17 short-term interest rate markets have continued to signal lower rates ahead. The peak is now expected to be at 4.51% in September this year. Remember too, that Bank Of England’s Mann reminded markets that rates do not need to be as high as the market suggests. This could mean a high of 4.5% or perhaps 4.25% next year. Bank of England’s Baile also said that rates lie closer to the constant rate curve than the market rate curve.
At the last BoE meeting the Bank of England raised interest rates by 50bps to 3.50%. The Monetary Policy Committee vote showed a vote split of 6-3. Two members wanted to keep rates at 3%, but one member wanted to raise interest rates even higher to 3.75%. This shows the growing stagflationary fears for the UK and the conundrum for the BoE. What problem should the BoE focus most clearly on? Slowing growth or rising inflation. The members wanting to keep rates unchanged favoured focusing on growth. The members wanting to raise rates even higher were focused on bringing down inflation. Expect this dynamic to be a source of tension for the BoE at its next rate meeting on February 2. You can’t have your cake and eat it in the interest rate world – you have to choose which fire you will fight – rising inflation or slowing growth? So, the risk for the BoE right now is not doing enough to crimp inflation and that creates pain down the line. It could be two or three years down the line, but these inflationary periods can move in multi-year cycles. Keep this in mind.
However, this does create some opportunities. If the UK is able to put in some surprising data points to the upside then the GBP could come back into fashion. Also, any Russian/Ukraine peace talks should also boost the GBP. However, in monitoring incoming data don’t forget the influence that the USD has on the GBP. If US inflation starts rising again then that will increase expectations for the Fed to be more aggressive. That in turn will boost the USD and weaken GBPUSD. So, in looking at the path of the GBP you also must factor in the path of the USD too. This is easily overlooked by some, so don’t make this mistake. See the full BoE statement here.
Swiss National Bank, Chair: Thomas Jordan, 1.00%, Meets March 23
In December’s meeting, the Swiss National Bank (SNB) hiked rates by 50bps as expected to bring interest rates in Switzerland up to 1%. The SNB, like central banks around the world, has been responding to an uptick in its domestic inflationary pressures. The latest headline inflation print for Switzerland is at 2.8% for December and that is well down from the August peak of 3.5%.
However, the December’s reading for the core inflation rate showed an uptick to 2% which is in line with the high summer reading of 2%. On balance there is nothing happening in Switzerland that is very different to the rest of the world and Short Term Interest Rate Markets are now pricing in a peak of 1.67% for this year and around a 50/50 split as to whether the SNB hikes by 25 or 50bps at the next meeting on March 23. Check out the helpful Implied Interest Rate Curve from the Financial Source Interest Rate Tracker widget.
So, this means that if the SNB does hike by 50bps in March the SNB could signal the end of its hiking cycle for now.
The recent CHF strength could start to see a top on the CHF index as the SNB looks set to peak with its current hiking cycle. If you look at the chart below around the level marked this is the area that could potentially be a top. However, that will very much depend on the path of inflation and the SNB moving forward.
The SNB’s current December conditional forecasts for Inflation can be seen below.
With the SNB rate possibly peaking in March a retracement lower in the CHF could be a potential play against another currency that has a strong reason for gains. So, if US inflation rises, but Swiss inflation falls this may open up a divergence between the SNB and the Fed. You can read the SNB full statement here.
Bank of Japan, Governor Haruhiko Kuroda, -0.10%, Meets 18 January
Yield Curve Control Mechanism unchanged
On December 20, the bank unexpectedly tweaked the Yield Curve Control band to +/- 0.50% in order to increase bond purchases to JPY 9 trillion in Q1 2023. The BoJ played down the significance of this move, saying it was to improve market functioning and encourage a smoother formation of the entire yield curve. However, speculation is that the BoJ is preparing to exit its ultra-loose monetary policy in April this year when Kuroda retires and a potentially more hawkish replacement steps in.
On January 18, the BoJ fought the rising speculation that it would shift policy. It kept interest rates unchanged at -0.10% and the Yield Curve Control Target unchanged for the 10-year JGBs at 0%. The projections on Real GDP were cut as follows:
- Fiscal 2022 median forecast cut to 1.9% from 2.0%,
- Fiscal 2023 median forecast cut to 1.7% from 1.9%,
- Fiscal 2024 median forecast cut to 1.1% from 1.5%.
However, the projections for the longer-term CPI were still below the BoJ’s 2% target for 2023 and 2024:
- Fiscal 2022 median forecast raised to 3.0% from 2.9%,
- Fiscal 2023 median forecast maintained at 1.6%,
- Fiscal 2024 median forecast raised to 1.8% from 1.6%.
The BoJ did recognise that inflation expectations are on the rise. In a departure from most of the rest of the world that is fighting inflation, the BoJ actually took this as a positive sign saying, ‘It takes time but prices will gradually rise towards the inflation target on the back of rises in inflation expectations and wage increases’. So, while the rest of the world fights inflation the BoJ is still trying to welcome it. It sounds like a disconnect of policy, but the BoJ is sticking to its ultra-loose monetary policy for now. However, the question is, for how long?
The BoJ is playing inflation as a transitory card in bold colours. They are doubling down. With the BoJ owning so many JGB there is a risk here that the market keeps trying to challenge the yield curve control policy and that the JPY finds buyers trying to force the BoJ’s hand. For now, buying any JPY weakness makes sense as long as risk is carefully defined and the BoJ look poised to exit its ultra-loose monetary policy. The risk, of course, is if it doesn’t exit that policy.
The next meeting is on March 9 and the Summary of Opinions is on January 26. You can read the full BoJ statement here.
Reserve Bank of New Zealand, Governor Adrian Orr, 4.25%, Meets 22 February
RBNZ: Considered larger 100 bps hike
The RBNZ took a decidedly hawkish tone again at its last meeting. The RBNZ recognises that annual inflation remains too high at 7.2% and it hiked by 75bps to 4.25%. This 75 bps was expected, but the surprise was that the RBNZ now sees itself as needing to hike interest rates at a faster pace.
Higher rates ahead to tackle surging inflation
The RBNZ is concerned over this rise in inflation and the committee started its statement with these words: ‘the OCR needs to reach a higher level, and sooner than previously indicated’. So this tells us the RBNZ will be hiking more quickly and doing so for longer. It now expects to reach a high of 5.5% in Q3 2023 which is up from the prior reading of 4.1% expected. On top of this, the committee had discussed the potential of a 100bps hike. This makes sense when you consider that the RBNZ’s next decision will be in February 2023. The RBNZ needs a recession to bring inflation down to the 1-3% target range. The RBNZ recognised that near-term inflation expectations have risen, so it is keen to counter the upside inflation risks with firmer action now.
The main point to take from the RBNZ is that it is more fully focused on tackling inflation. However, has this really hugely changed RBNZ’s outlook? It could be argued that it does, but the outlook for the RBNZ was already hawkish. So, a lot of that NZD strength has already been priced in. This makes trading it tough, however, it should also be noted that a significant drop in NZD data between now and the Feb rate meeting could see some of the recent NZD strength fade.
Next week will see inflation data released and it will be interesting to see if there is a second consecutive fall in headline inflation. The expectations however are for a print of 7.7% which would indicate inflation is still a pressing concern for the RBNZ. You can read the full RBNZ statement here.