Central banks seem to be having a bit of a crisis of communication. Since the financial collapse in 2008, many central banks moved to greater messaging, reintroducing forward guidance as a way to assure the market that rates would remain low for a long time. This was necessary because the action of cutting interest rates alone wasn’t enough to reinvigorate the economies. This increased communication and assurance worked well when rates were going down and long-term yields were falling to unprecedented levels, pumping up stock prices and economic activity.
Today, however, the market is much more interested in hearing when the central banks plan to start tightening, especially because they have used dramatic measures such as quantitative easing. And with these communications, central banks seem to be struggling to send a clear message.
Just this week, Federal Reserve Chair Janet Yellen’s House testimony resulted in numerous interpretations of what she meant. Some thought she said the labor market hadn’t healed enough and inflation was still too low. Others thought she hinted that she is on track to raise rates around June. Contributing to the confusion was the Fed‘s decision to shift away from watching just the unemployment rate as the main gauge for tightening.
But it’s not just the U.S. Fed sending mixed signals. The Bank of Canada (BOC) also has confused the market, starting in January when it suddenly cut rates, citing weak oil prices. The market expected a follow-up rate cut in March. But just this week, BOC governor Stephen Poloz changed his tone and said that the rate cut in January was merely a preemptive move to buy more time. This dashed the market’s rate cut expectations, making the Canadian dollar or loonie, climb to a two-week high.
Moreover, many that do communicate are finding it quite costly. New Zealand’s central bank governor Graeme Wheeler said earlier this month that with a red hot housing market in his country, he doesn’t expect to cut rates. The result, with more than 15 central banks all clamoring to cut interest rates, was investors pouring money into the New Zealand dollar, pushing it to levels unwelcome to Wheeler.
It seems central banks need to work on their communication skills, and market watchers need to take these communications with a grain of salt.
My View: The world is split between rate-raising countries and rate-cutting countries, and balancing the two forces has been challenging. Because central bankers have either changed their view or come up with surprise moves, the market is getting less reactive to often misleading ‘forward guidance’. Consequently we may be approaching a period of lower volatility, as the market seems just as confused as the central bankers.
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