Global: The tightening train

Published October 14th, 2009 - 10:02 GMT

Global: The tightening train
After a steady diet of rate cuts by central banks, monetary policy is starting to shift, with a mixture of hikes and cuts. None of the major central banks has hinted at hiking, but with a number of smaller banks moving, clients are asking: how soon do the major central banks follow suit and are the major central banks falling behind the curve? We think these concerns are overdone. It is important to recognize the specific circumstances facing different central banks.

United States: Dissing inflation
One central bank that is nowhere near to hiking rates is the Fed. Inflation is a long lagging indicator and this will provide the Fed with plenty of breathing room before having to hike rates. We expect inflation to continue falling because of the enormous spare capacity in the economy in general, and housing in particular.

Euro area: Cooing doves in Venice
Another bank nowhere near hiking is the ECB. At its latest press conference, the ECB did not change its tune much. The choice of words suggests that the ECB expects to stay fully on hold at least until early 2010. In our opinion, the ECB will be surprised by the strength of the economic rebound in late 2009 and early 2010, just as the bank was surprised by the depth of the recession. If so, the ECB will likely change its tune in early 2010.

Australia: The new normal
Australia is unique in that it was the first G-20 nation to hike rates, a month ahead of our expectations. As we noted above, it is important to recognize the specific circumstances facing the Australian economy. Australia never entered an official recession, has been able to cushion the fall-out of the global recession through its commodity sector, and is actually seeing home prices rise sizeably.

Emerging Asia: The recovery is sustainable
Another area where monetary policy tightening is in the offing is in Emerging Asia, which has led the global recovery. We think the regional upturn is sustainable, as the impetus shifts from Chinese macro policy to export demand from the US and Europe. The key issue, in our view, is not the risk of a double-dip. It is the need for Asian central banks to normalize macro policy through interest rate hikes and currency appreciation. So, we expect emerging Asia to be near the front of the policy tightening train. 

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