Developed Central Banks and Rate Expectations

FED: The FOMC kept rates unchanged in August, but three regional Presidents dissented in favor of raising rates. The statement, press conference, and minutes all leaned in a slightly hawkish direction, certainly leaving December open as a possibility for tightening policy. The FOMC declined to acknowledge signs of faltering data momentum and Yellen reiterated her claim that “the case for an increase in the federal funds rates has strengthened.” However, the Fed appears to see little downside to a cautious approach and we maintain our view that the Fed will not hike rates until May 2017.

ECB: At the September meeting, the ECB left rates and QE unchanged. In the press conference, Draghi confirmed that a technical committee had been put to work to ensure the smooth implementation of QE. This implies that the ECB is set to change the parameters of securities eligible for purchase in order to address the issue of bond scarcity in the coming months, and we expect an announcement before the end of the year. It is likely that an extension of QE beyond March 2017 will come alongside this announcement. On balance, we think this is more likely at the October 20th meeting than at the December 8th meeting.

BOJ: The BoJ revised the monetary policy framework at its September meeting. The BoJ will now target the level of 10 year JGB yields as well as the rate for IOER. The bank will purchase JGBs so that 10-year JGB yields remain around 0%. They expect the pace of purchases to remain around ¥80T, but the guideline for the average remaining maturity will be abolished (previously 7-12 years). We remain skeptical about the ability of the bank to boost expected inflation rates. While the declared commitment to keep the monetary base growing even after the 2% inflation rate is hit was a gain on the surface, the decision not to introduce explicit “stock targeting” – or more visibly upgrade the inflation target – was a disappointment.

BOE: The Bank of England voted unanimously to keep rates unchanged at 0.25% and QE unchanged at 435bn at its September meeting. Following the stimulus package announced by the BoE in August, the UK economy has performed slightly better than expected, with a rebound in August PMIs to record levels. The hard data, such as retail sales and industrial production, has also been resilient so far. The MPC are data dependent and still see a case for a cut in November if growth comes out at 0.1%q/q in Q3 i.e. in line with their August forecasts. At the September meeting, they said “the Committee would assess that news, along with other forthcoming indicators, during November. If, in light of that full updated assessment, the outlook at that time was judged to be broadly consistent with the August Inflation Report projections, a majority of members expected to support a further cut in Bank Rate to its effective lower bound at one of the MPC’s forthcoming meetings during the course of the year.”

SNB: The SNB maintained the deposit rate at –0.75% and the target range for 3-month Libor between –1.25% and –0.25% at its quarterly monetary policy assessment in September. While the costs of negative rates are obvious and the benefits difficult to estimate, it is clear that raising the interest rate to 0% in the current context (i.e. abandoning the negative rate policy) would generate very large costs to the economy. Indeed, such a measure would be seen as a total capitulation of the SNB in preventing the franc from appreciating, thus most probably leading the franc to new highs. Moreover, the exemption thresholds, i.e. the amounts held by banks at the SNB that are not subject to the negative rate, are crucial in preventing banks from passing on the negative interest rate to retail customers, in our view.