“That’s not quite what I meant”
Central bankers are sometimes accused of not giving a clear steer to investors and financial markets. Certainly some policy makers want to fine tune what they consider is priced into asset prices. Whether they succeed is another matter entirely!
Christine Lagarde was a prime example this week. After sounding rather hawkish at last week’s ECB press conference, she tried to refine her words in a subsequent speech. The ECB president stressed monetary policy would be gradual. After all, there was “no need to rush to any premature conclusion” as the economic outlook remains “too uncertain”. Nevertheless, she remained confident, of course, about the Bank’s forecasting capabilities. “There are no signals that inflation will be persistently and significantly above our target over the medium term, which would require measurable tightening”. Bank of France Governor Villeroy weighed in to support her, suggesting that markets had “overreacted” to Lagarde’s earlier comments. All in all, investors should wait for the ECB’s meeting in March when the debate about the speed of tapering bond purchases would signal better the speed and direction of the market.
Once central bankers have given their views, then investment houses pitch their hawkish or dovish views. For example, Blackrock think Fed policy will not be too aggressive in coming months, Goldman Sachs think the Fed will move at least 5 times this year, whilst Bank of America is more concerned; it forecasts 7 rate hikes, that is one every meeting.
Such views are understandable after the most recent payrolls and inflation reports for the USA. Not only was demand for workers rather strong into January, but this led to wages tracking an annualised rate of 6% into the spring, exceeding the previous peak seen back in 2007-08. This week’s CPI report added fuel to the fire. The annual rate had been expected to exceed 7%. In the event, prices rose by 7.5% in the year to January, the fastest pace of inflation in 40 years, as food, shelter and electricity costs all jumped. The core CPI excluding food and energy was still up 6% for January; clothing, insurance, restaurant meals and rents all played their part. Fed officials must also have noted that the latest small business survey showed a record proportion of companies increasing their prices.
As such economic data raises the prospect of tighter Fed policy, it is no surprise at all then that the yield on US 10-year government debt has touched 2% for the first time since 2019. Other markets are following suit, despite any central bank attempts to provide more cautious messages. The UK benchmark yield has reached 1.5%, its highest since 2018. The German and Japanese 10-year bond yields have reached 0.25%, into positive territory for the first time in several years. Such changes mean the iceberg of debt with a negative yield is melting rapidly; it has plunged from over $15 trillion to under $5 trillion in the past year. In effect bond markets are returning to normal conditions after years of central bank financial repression.
Central bankers may be correct that inflation will peak soon and decelerate over the rest of this year back towards target in 2023, but markets are not yet convinced.
Andrew Milligan is an independent economist and investment consultant. This note is offered as general commentary on economic and financial matters and should not be considered as financial advice in any form.
Andrew Milligan an independent economist and investment consultant. From 2000-2020 he was the head of global strategy at Standard Life/Aberdeen Standard Investments, analyzing the major financial markets for global clients. He currently assists a range of organizations with reviews of their investment processes, advice on tactical investing and strategic asset allocation, and how to include ESG factors into their decision making