Let’s base our decisions on reality
Trying to give guidance on rates well in advance can have unintended effects, by increasing uncertainty
Next month, the holiday makers in the First World will return to their desks in the financial houses in New York and London, prepared for the normalisation of monetary policy in the world’s biggest economy.
The US Federal Reserve has laid the foundations for it for the better part of two years and when the northern summer vacations began, there was very little doubt that next month we’d see the first rate hike since 2006. The US economy is strong and unemployment, which is a major concern of its central bank, sits just above 5%.
These factors point to a rate hike and a normalisation of monetary policy in the US. And if they come about, SA’s consumer misery will continue, as the South African Reserve Bank, whose monetary policy committee also meets next month, will no doubt have to follow suit.
Higher rates in the US will in all likelihood only strengthen the dollar further and by extension only worsen our inflation outlook.
So that’s our immediate future — well, perhaps.
There’s another possibility, one where the Fed continues to hold back on normalisation. Apart from the fact that more Americans are employed, there’s still no inflation to speak of.
A healthy recovery in the US economy — or any economy — is normally accompanied by higher inflation as demand picks up. In the case of that country, whose economy is largely made up of domestic consumption, a rise in demand should be visible rather quickly through rising prices.
This is definitely not the case. Inflation in the US is coming in around 0,1%, much lower than the Fed’s 2% target. A sign, if ever there was one, of just how tepid the US economic recovery still is. Standard Chartered says the current US economic cycle may have peaked.
There is room for the Fed to wait and come back to the most awaited decision in global markets in December, perhaps. Or even 2016.
Which brings me to my one issue with the world’s central banks and their habit since 2008 of trying to manage market volatility by giving long-term guidance on what their monetary policy will be. It allows the opposite to happen, especially if their moves are reliant on economic data.
The data does shift the goalposts from time to time. From month to month, week to week and in some cases, day to day, they tell a different story. And central bankers and their committees should have the space to change their minds.
But when they’ve informed markets that in 18 months, they’ll either tighten or loosen monetary policy, they tend to paint themselves into a corner. Their credibility will be questioned if they don’t follow through.
The Bank of England’s Mark Carney promised normalisation in the UK economy as soon as the unemployment target was reached. Well it was, in the first quarter of last year. But rates haven’t moved (and rightly so).
Central bankers should play it by ear and relax on this need for long-term guidance in an attempt to cool volatility in markets. If anything, this has only fuelled the uncertainty.
In search of global growth and direction, markets have looked for guidance from the world’s leading central bankers, letting them assume an “oracle”-like role. We now know that growth is no longer in their hands, for most of the world’s governments need to face up to structural changes in their domestic economies.
To get out of the spotlight and allow them the time and space to make their calls on monetary policy without market pressures, central bankers need to keep their ears to the ground and advise on a shorter-term outlook.
Maybe, just maybe, the Fed will be able to normalise when inflation data tells it to. Not when it’s to meet a promise made two years ago.
But anyway, either next month or in December, the great normalisation begins. And we, mere mortals, living in the emerging world, will hope we come out okay when a new normal is reached.
Welcome back, New York and London.
Central bankers should relax on this need for long-term guidance in an attempt to cool volatility