The end of easy monetary policies
It has been a couple of years since the Federal Reserve hinted at the reversal of its easy monetary policy. It did raised rates back in December of last year. Since then the financial markets got used to the idea that the Federal Reserve will not be aggressive in tightening its monetary policy. Investors have priced in a lot less monetary tightening than was signaled by the Federal Reserve for the future path of interest rates.
The surprise election of Donald Trump and the aggressive sell off in global bonds are likely to affect this divergence for two main reasons, and the market reaction will depend on which of the reasons will drive interest rates and the financial markets.
Although the Federal Reserve had ample reasons to tighten monetary policy but failed to do so. Continues economic optimism at the Federal Reserve, at times led to repeat downward revisions in growth projections. Also, the clear diversion in the opinions of some members of the Federal Reserve committee, market participants and the spillovers from international developments and changes in the value of the dollar. Initial market reaction to the result of the US presidential election was the more credible one. Investors have decided with their money rather than listen to the Federal Reserve comments. The difference between what the officials say or forecast and the financial market forecast of future interest rates, could only be tested in the coming months.
Economic environment mostly based on Donald Trump’s new economic policies. This is something the new president has to stick with or he would face violent and markets turbulence soon. Investors are anticipating new economic policies that are going to double US economic growth. Also, the size of budget that is targeted for infrastructure spending and corporate tax cuts.
Donald Trump’s softer tune and pro economic growth just after winning the election has boosted market sentiment, leading to a surge in stocks and setting a new record for the Dow Jones
Industrial Index. In response, and even though it is still early days, some analysts already are inclined to revise upward their economic projections for the US, with beneficial spillover effects for the global economy. It all depends on how Donald Trump carries out his new policies. High expectations of investors may not be the only factor leading to the selloff in bonds, rally in stocks and a surge in US dollar. Some of Donald Trump’s new economic advisors have already been questioning the effectiveness of prolonged central bank monetary stimulus. These come after some complaints were made during the presidential campaign about the independence of the Federal Reserve and its chairwomen Janet Yellen. The new US administration led by Donald Trump have to be very careful about any comments or move that might destabilize the working of the Federal Reserve and its committee.
Questioning the independence of the Federal Reserve might unnerve investors and could trigger market concern about the whole operation and policies of the US central bank. Such concerns will not benefit the US economy or the global financial market. Much higher bond yields would likely lead to weaker stocks and a global economic slowdown.