The role of US central bankers has become so much more than it once was. In a past life, all they had to worry about was balancing a steady rate of inflation, once in a while bringing out the bellows to fan markets along. Every now and then in the odd economic cycle they would consider how their actions would influence foreign stock and bond appetite after they’d dealt with getting their own house in order.
The global economy was, for the main part, an afterthought, a sub-narrative to establishing and reaffirming a monetary policy. And then Alan Greenspan started to become infatuated with global petroleum prices, and the persona of those directing policy started to change. Since then, the responsibility for a number of economies has sat with the Federal Reserve, which has given less support for the investor community. It’s a global world, as we all say.
The announcement after the Fed’s meeting on US interest rates in September was the single most important decision to influence international affairs this year
In their latest announcements Janet Yellen and Stanley Fisher said outright that they’d be studying emerging and other market metrics before considering their own domestic reality. We’ll push, they said, but only after we’ve got the nudge from abroad. The most interesting non-conclusion to have come from the September meeting was that if there were an interest rate hike, it would be measured and made in response to economic numbers.
US domestic growth has been an international concern for decades of course, but until this latest announcement it was the driving force behind financial markets and the confidence therein. Now it seems the Federal Reserve has decided to willingly succumb to a role reversal, awaiting instructions from abroad. Arguably the announcement after the Fed’s meeting on US interest rates in September was the single most important decision to influence international affairs this year.
Economists and central bankers in emerging markets and developed economies sat braced, compass in hand and leering over Phillips curves, awaiting the news that would shock the world. Domestically, government bonds rallied, and the dollar dipped temporarily. Externally, the news couldn’t have been better. It’s the domestic investment community that has been let down the most, given the rationale for normalising rates.
One of the unintended consequences of US quantitative easing is that it funnelled a large chunk of credit creation into emerging markets, where the carry trade spun quite a bit of wealth. There has been such an explosion of credit, in fact, that emerging markets account for about 50 percent of global growth and about 80 percent of credit creation. As the US starts to bring that back within the domestic economy when money rates resettle, this is when damage can be expected to be done to those emerging countries. Delaying further is simply delaying the inevitable. Further, the longer rates are held the more likely they will go up, which is the natural conclusion among the global financial community.
The investment community tutted in shame as Yellen discussed trend growth at only two percent, as the more bullish sentiment that currently drives the analytical community nods to S&P breaching 22,000 points, and corporate earnings growth of around four percent over the next 12 months. Who would you rather believe?
Sitting on the fence breaks it
Of course such matters that feed into grand consequences are not to be taken lightly, and demand big shoulders of those who commit to them. So significant are they in fact that Yellen and the Fed have decided to sit on the fence. In essence, the economy is in charge of money rates. In the meantime, investors can run around like headless chickens. It’s quite the daring statement had Yellen not decided to fudge the issue by saying that she hopes to raise rates before the year is out.
While the succumbing of the Fed to economic behaviour feels something of a cop out, of course borrowers responded quite gleefully – at least for the near term. It’s a shame that borrowers who need to avidly study interest rate decisions are those less likely to want to borrow more, making the buoyancy on the supply side less likely to convert into anything distinctly positive.
The decision was taken in light of seriously stunted growth in emerging markets. Investors have grown a little wary of markets in much of South America and parts of Asia and interest in bonds has fallen through the floor, leading to a situation that needs to be protected. Granted, we still have rapid excess debt that hasn’t been adequately addressed.
The Fed needs to show confidence in the US economy. While the recovery is fragile and a sudden face wind could immediately derail progress, it’s time the country’s bankers show a clear and determined agenda. This is going to put the breaks on emerging market growth and might even set a few economies into long-term systemic slowdown, but not raising interest rates is simply delaying the inevitable.
Time will tell
Domestically, central bankers need to get behind the finance community that drive the investment multiplier and focus on encouraging the green shots in the jobs market. Governments and private institutions everywhere still struggle with recapitalisation, austerity measures and regulatory clarity.
And yet we do have far stronger financial establishments. Look at how far Wells Fargo has come, or the structure and capabilities Goldman Sachs has given itself. Both companies are capable of making far more money for shareholders than in previous cycles, and it’s going to become more and more difficult for central bankers to keep the shackles in place.
There will be much to appraise in the December meeting. With assertions of inflation and overheating in some markets – such as real estate – there’s still continued deflationary expectation in global trade markets. Following a battering by the Fed, US stock futures started to look for clarity. The time to give them this is sooner rather than later. The world will follow.