The central banks’ monetary policy decisions are divergent
- The European Central Bank increased interest rates on Thursday, after the Federal Reserve chose to take a break.
- Just days before that, China’s central bank lowered its key medium-term lending rates, and in Japan the central bank left its ultra-loose policy unchanged.
- “Given the different stages jurisdictions are in the cycle, there will be more nuanced decisions to be made,” Konstantin Veit, portfolio manager at PIMCO, told CNBC̵[ads1]7;s Street Signs Europe on Friday.
Dollar, yuan, yen and euro bills.
Ullstein picture German | Ullstein Picture | Getty Images
From hawkish pauses to interest rate hikes and dovish tones, the world’s biggest central banks struck very different notes on monetary policy last week.
The European Central Bank raised interest rates on Thursday and surprised markets with a worsening inflation outlook, prompting investors to price in more interest rate hikes in the eurozone.
This followed a Federal Reserve meeting where the central bank decided to pause rate hikes. Just days before that, China’s central bank lowered its key medium-term lending rates to stimulate the economy. In Japan, where inflation is above target, the central bank has left its ultra-loose policy unchanged.
“Taking all these different approaches together shows that not only does there appear to be a new divergence in the right approach for monetary policy, but it also illustrates that the global economy is no longer in sync, but rather a collection of very different cycles, Carsten Brzeski. global head of macro at ING Germany, told CNBC via email.
In Europe, inflation has declined in the bloc that uses the euro, but is still well above the ECB target. This is also the case in the UK, where the Bank of England is expected to raise interest rates on Thursday after very strong employment data.
The Fed, which started its hike cycle before the ECB, decided to take a break in June – but said there would be two more rate hikes later this year, meaning the hike cycle is not yet complete.
However, the picture is different in Asia. China’s economic recovery is stalling, with falls in both domestic and external demand leading politicians to step up support measures in an attempt to revive activity.
In Japan – which has battled a deflationary environment for years – the central bank said it expects inflation to fall later this year and chose not to normalize policy just yet.
“Each central bank [tries] to solve for their own finances, which obviously includes consideration of changes in economic conditions imposed from abroad,” said Erik Nielsen, Group Chief Financial Advisor at UniCredit via email.
The euro rose to a 15-year high against the Japanese yen on Friday, according to Reuters, amid divergent monetary policy decisions. The euro also broke above the $1.09 threshold as investors digested the ECB’s hawkish tone last Thursday.
In bond markets, the yield on the German 2-year bond hit a new 3-month high on Friday, given expectations that the ECB will continue its approach in the near term.
“It makes sense that we are starting to see this divergence. In the past it was clear that there was a lot of room to cover for pretty much all the major central banks, whereas now, given the different stages jurisdictions are in the cycle, there will be more nuanced decisions to be made taken,” Konstantin Veit, portfolio manager at PIMCO, told CNBC’s Street Signs Europe on Friday.
“This will actually create opportunities for investors.”
ECB President Christine Lagarde was asked during a press conference to compare her team’s decision to raise interest rates with the Federal Reserve’s decision to take a break.
“We’re not thinking about a break,” she said. “Are we done? Are we done with the journey? No, we’re not on [the] destination,” she said, pointing to at least one other potential rate hike in July.
For some economists, it is only a matter of time before the ECB finds itself in a similar position to the Fed.
“The Fed leads the ECB [as] the US economy leads the Eurozone economy by a few quarters. This means that after the meeting in September at the latest, the ECB will also be confronted with the debate about whether they should take a break or not, said Brzeski.