Global interest rates — a breakdown of consensus
- Last year saw a follow-my-leader approach to interest rate policy, but recent events suggests there could soon be a change.
- The UK and US appear to be ready to cut rates while Sweden has just hiked them.
Analyst reports forecasting global interest rate moves through 2020 are offering a wide variety of outcomes. The Bank of England (BoE) in the UK has responded to bouts of poor economic data by playing dovish mood music. Rates in the UK were unchanged in 2019, so any change would signal a move away from inertia and towards an unknown destination. A report released on Tuesday by Swiss Bank UBS explains a causal path, which could see the US Fed cut rates three times in 2020. This prediction is something of an ‘outlier’ with the wider market expecting a maximum of one. Then there is the decision made by the Swedish Riksbank in December. After years of running negative rates, the Swedish central bank raised rates and brought them back to zero. The move proved something of a case study for those other central banks around the world that are running negative rates and wondering if and how they will return to ‘normal’.
UK data releases on Monday were particularly disappointing. The question of whether Brexit will happen or not may have been answered, but the lack of investment caused by years of political uncertainty has finally caught up with the economy. November’s year-on-year GDP growth number showed the UK economy grew at its weakest annual rate since 2012. The 0.6% change from November 2018 to November 2019 points towards fundamental weakness in the economy. Manufacturing output and industrial production were lower year-on-year — proof if needed that capital investment has suffered from Brexit delays.
Unlike most global central banks, the UK has left rates untouched since 2016. The extent of political toing and froing in Westminster meant that any rate moves could have opened up the door to vacillation. As a fair degree of central banker’s authority stems from the giving of an impression at least of knowing what is going on, flip-flopping is a big no-no for the likes of BoE Governor Mark Carney.
UK — interest rates — five-years:
Confirmation that the UK will be leaving the EU on 31st January has provided the BoE with an option to recalibrate its monetary policy. The Bank’s next move appears less likely to be undone by a major shift in political policy. After comments made on Monday, that next move on interest rates looks likely to involve taking them lower.
Gertjan Vlieghe, member of the Bank’s Monetary Policy Committee (MPC) hinted that he could vote to reduce rates if the economic data releases continue to disappoint. The last time the MPC met was December, and the vote to keep rates unchanged was decided by 7–2. Even then, though, the Bank was willing to share dovish guidance. A statement that accompanied the 7–2 decision said:
“If global growth fails to stabilize or Brexit uncertainties remain entrenched, monetary policy may need to reinforce the expected U.K. recovery.”
GBPUSD — One-week price chart:
Sterling has spent several years as the de facto measure of the probability that Brexit might occur. As interest rates re-establish their influence on the currency, the dovish comments by BoE members saw GBPUSD fall below the significant $1.30 price level. In the first trading session of the week, sterling fell by 0.7% against both the dollar and euro.
If one cut of 25 basis points in the period of three years is enough to move sterling to new levels, then a report from UBS could see the US dollar sent into a tailspin. Bucking the trend for forecasting one rate cut over the next 12 months, the Swiss bank suggests that the Fed could cut rates three times before the year is out.
Arend Kapteyn, global head of economic research at UBS, said on Tuesday that year-on-year growth for the US could be as low as 0.5% in the first part of 2020. The driver of this underperformance being the US and China imposing trade tariffs on each other through 2019. The situation is improving, with a phase one deal due to be struck on 15th January, but as with the UK, the damage has already been done. Kapteyn was speaking with CNBC's Street Signs Asia when he said:
“We think this tariff damage is going to push U.S. growth down… that’s actually going to trigger three Fed cuts, which is way off consensus, nobody believes that.”
Through the second half of 2019, the Governor of the Fed, Jerome Powell avoided political arm wrestling with President Donald Trump by declaring his intention to base rate decisions on fundamental data. The net result of that is that negative data now requires a rate cut or an embarrassing and politically charged resistance to following the stated path. Kapteyn said:
“We think they’re going to get that downshift. I think you need quite a bit of additional evidence though before they get there. So, we’re thinking first cut maybe in March but we really need to see… loss of growth momentum.”
Sweden’s central bank, however, has taken rates in the other direction. Facing the same global risks as the UK and the US, the Riksbank raised rates by 0.25% and took them to zero. It became the first of the world’s central banks to take the step of returning to what was long considered the base level for interest rates.
US Fed funds rate vs Sweden interest rates — five-year price chart:
The trigger for the hike was a belief that the upside-down world of negative rates was distorting the economy — free money that boosted asset prices and debt levels whilst simultaneously failing to stimulate the working economy. The timing is significant. It was the Riksbank that first took rates below zero in 2015. If this means that those that followed the Swedes to negative rates are due to come to the same conclusion, then Japan, Switzerland and the eurozone might be positing themselves to raise rates while the US and UK are looking to lower theirs.
SEKUSD — daily candles — July 2018–January 2020:
One point to consider is how the Swedish rate hike effectively failed to lead to any improvement in Krona. The SEKUSD price chart shows that the underlying problems in the economy are failing to trigger a significant rally.