Central bankers hate to be seen to be wrong
New York (Sept 18) With so much riding on central bank interest policies in terms of equities in general, and precious metals in particular, perhaps one should look at the motivations behind the timings of likely interest rate hikes.
If we start with the U.S. Fed – nine months ago its Federal Open Market Committee (FOMC), which calls the tune on interest rates, was predicting that the U.S. economy was recovering sufficiently to allow three, or perhaps four, small rate hikes in 2016. It obviously hasn’t and so far not a rate hike to be seen, which is why there has been so much attention being paid to a possible September rate increase – if only to save FOMC face. We get successive statements suggesting the U.S. economy is coming right, only for the next set of government data showing that it patently is not doing so, and the rate increase can gets kicked down the road again.
The latest data, showing disappointing retail sales in August, following on from an ultra cautious statement from Fed Governor Lael Brainard, seems to have left those thinking that there could yet be a September rate increase announcement, in the distinct minority. But there are still lingering doubts that the FOMC may talk itself into a rise this month, hence some of the weakness seen in the gold price and equities.
Everyone rules out a November rate hike as that would come so close only a couple of days ahead of the Presidential election date and now apparently some 70% of analysts believe that the FOMC will bite the bullet and implement a small increase in December – probably whether the data would seem to justify this or not. While the Fed’s forecasting credibility is perhaps near zero, this might be a tiny face-saver.
Here in the UK we have the opposite scenario post the Brexit vote. The establishment spent so much time telling everyone what a disaster a vote to leave the EU would be economically that not surprisingly, in the immediate aftermath of the referendum, economic nervousness prevailed. Bank of England (BoE) Governor, Mark Carney, was at the forefront of the dire warning brigade.
But, to everyone’s surprise, the UK economy is yet to show much, if anything, in the way of a downturn after an initial stutter. Even so the BoE lowered interest rates ‘just in case’ as an economic stimulus in August and although it has kept them steady this month as the data so far has not supported the necessity of a further cut, Carney is forecasting the likelihood of an additional drop before the year-end – presumably taking the bank’s base rate down to zero percent – or very close.
Consider the data though. The stock market is up post Brexit, employment has risen, property prices appear to be on the rise again, we are still in a GDP growth phase, the latest Services PMI for August (i.e post Brexit) has shown the biggest month on month rise in its history; the August manufacturing PMI also grew at the fastest rate in its 25 year history to 53.3 when the market had been expecting a contraction; inflation has not yet taken off, despite the fall in the value of the pound sterling against the euro and the US dollar. Indeed the pound seems to be just about the only sufferer from the Brexit vote, although this is a two-edged sword in that it makes UK exports more competitive, and boosts tourist spending as foreign currencies go further making the UK an even more attractive destination.
Now Carney and the BoE will warn that this is a phony temporary outcome. Inflation is almost certainly going to increase as lower sterling means higher costs of imports and if that starts filtering through to consumer spending we could well see difficult times ahead. It is early days yet, and the UK is still in the EU so the real exit fallout is perhaps still two years or more away. But so far the figures have confounded virtually all the ‘expert’ predictions and perhaps they will continue to do so when some of the potential positives of Brexit are at last taken into account.
However, this doesn’t stop the Brexit doom and gloom merchants from still trying to talk things down in order to justify their dire predictions – and Carney and the BoE are among these and thus may yet decide to cut rates again whether the data really justifies this or not. Conversely the U.S. Fed may well raise rates to pursue the so-called legitimacy of its own forecasts. That’s what happens in global economics and politics. The experts and the establishment hate to be seen to be wrong and will often follow their pre-conceived path regardless with no thought for the general public and the investment community if it affects them adversely in the process.
What is doubly worrying is that this same analysis may well apply also in the global political arena – even down to going to war! Once national leaders are set on a particular path they tend to continue regardless, even though intelligence data may change and not ultimately support their decisions. One might argue that the Iraq wars and the interventions in Afghanistan, Libya and Syria have indeed followed this kind of route with no planning or perception of the potential consequences, not only for the combatants, but probably even more importantly for the domestic populations of those nations. They just create a power vacuum allowing extremist organisations to take control, if not of the whole country, but large swathes of it.
NATO could find itself embroiled in something similar in the Ukraine when it could talk itself into lining up against Russia – altogether a different, and far more alarming, confrontation for all concerned. But it’s too easy for what starts as combative rhetoric to lead to an ultimate nightmare scenario with neither side willing to back down for fear of losing face.
But that’s something of a digression, albeit an alarming one. Both the U.S. Fed and the BoE, and perhaps the European Central Bank too, could be talking themselves into economic policies which are to the ultimate detriment of their own domestic communities and will likely also adversely impact the world’s emerging economies. Arguably the Bank of Japan has already accomplished this having implemented policies which have driven this key economic and industrial powerhouse into years of average zero growth.
But until we hear the results of the FOMC deliberations before the end of next week, precious metals and equities may remain volatile – even with the week-long moratorium on Fedspeak ahead of the meeting so there won’t be FOMC participants muddying the waters with their conflicting statements. If, as expected, there’s no decision on rates this time, the markets may breathe a collective sigh of relief up until the weeks ahead of the December FOMC meeting when we’ll see this all play out again.