Two Central Banks See Lower Global Risks from ECB Easing

Monetary Policy Week in Review: 09-13 June 2014

by Peter Nielsen, Central Bank News

The European Central Bank’s (ECB) move to cut rates and add liquidity reverberated through global financial markets last week, pushing down the euro’s exchange rate and spurring expectations that it will extend investors’ current appetite for international risk.

The ECB’s easing comes at a delicate time for global markets.

Fighting in Iraq is threatening the country’s collapse and there are clear signs that U.K. rates will be raised sooner than expected. This has led to speculation that the Federal Reserve – which this week is expected to further reduce asset purchases – could also raise rates earlier than expected.

Without a fresh dose of liquidity in global financial markets by the ECB, investors’ nerves could be tested, with the Reserve Bank of New Zealand’s rate rise last week serving as a timely reminder that the days of ultra-low interest rates ultimately will come to an end.

But for now, the days of risk-on in global financial markets look to be extended, with the central banks of Serbia and Macedonia last week welcoming the ECB’s move as helping reduce global risks.

The Bank of Serbia, which cut its rate for the second time this year, said the ECB’s easing “should have a positive impact on liquidity in the international capital markets.”

The National Bank of the Republic of Macedonia, which maintained its rate, said the ECB rate cut had increased the spread between its own currency and the euro, “raising the attractiveness of the domestic currency.”

Through the first 25 weeks of this year, central banks have now cut their policy rates 26 times, or 11.6 percent of this year’s 225 decisions by the 90 central banks followed by Central Bank News.

This is essentially unchanged from 11.7 percent the previous week but up from 10.6 percent at the end of May and 9.6 percent at the end of April, showing how the global trend has shifted toward lower rather than higher interest rates as the global economy has performed weaker than expected.

The ECB’s rate cut, and notably the negative nominal deposit rate and other accommodative measures, is the latest confirmation of how central banks can still find ways to boost liquidity and lower market rates despite policy rates at essentially zero.

But the ECB’s easing, along with the Bank of Japan’s (BOJ) continued quantitative easing, is merely postponing the inevitable tightening of global monetary policy.

The United States continues to whittle down its asset purchases as it slowly moves toward a rate rise and the timeline for a rate rise in the United Kingdom has now pulled forward following Bank of England Governor Mark Carney’s warning on Thursday that the first rate hike “could happen sooner than markets currently expect.”

New Zealand’s central bank last week raised its rate for the third time in a row and surprised markets by signaling it would continue to tighten despite expectations that it would pause due to a fall in commodity prices and the strong New Zealand dollar.

With New Zealand’s rate rise, central banks in advanced economies now account for 3 of this year’s 20 rate rises, or 15 percent. Emerging market central banks have raised rates 10 times, frontier market central banks only once and central banks in other markets 6 times.

Rate rises account for 8.9 percent of this year’s 225 policy decisions, down from 9.2 percent end-May and 10.8 percent end-April.

LIST OF LAST WEEK’S CENTRAL BANK DECISIONS:

• Iceland holds rate but may raise, resumes FX purchases
• New Zealand raises rate 25 bps, sees inflation pressure
• Korea maintains rate, inflation to rise but low for now
• Indonesia holds rate, sees inflation hitting target
• Serbia cuts rate 50 bps, sees no inflation from floods
• Macedonia holds rate, sees positive FX impact from ECB
• Chile holds rate, still mulling cuts despite inflation rise
• Peru holds rate, sees inflation declining
• Mozambique maintains rate, inflation reflects cool season

TABLE WITH LAST WEEK’S MONETARY POLICY DECISIONS:

This week (Week 25) 10 central banks will decide on monetary policy, comprising the countries of Russia, Morocco, Sri Lanka, Thailand, the United States, Georgia, Namibia, the Philippines, Switzerland and Norway.

TABLE WITH THIS WEEK’S MONETARY POLICY DECISIONS:

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