It will be a busy week for central bank rate decisions next week, with announcements coming from the Reserve Bank of Australia, Bank of England and the European Central Bank. Economists are expecting all to hold rates at their current levels.
U.S. Federal Reserve
Current Rate: 2.00%
Next Rate Decision: June 25
Market Expectations: According to Fed Funds Futures, markets are pricing in a 94-98% chance for rates to remain on hold at the next meeting.
Although the Fed's rate decision isn't for another two weeks, there is now speculation as to when the bank will begin to reverse its policy stance and begin tightening.
Some believe the Fed will stay in a holding pattern following a report from the Commerce Department on Friday that shows inflation remains contained and that personal spending is on the rise. Sal Guatieri, senior economist at BMO Capital Markets, said the report supports the "stand-pat" policy of the Federal Reserve, as growth is moderate. Even though core inflation is below the Fed's estimates for this year, it's higher than their long-term unofficial target rate, he added.
This week, Dallas Fed President Richard Fisher, who said the Fed shouldn't wait to hike interest rates even if growth slows down, said that he expects "a change of course in monetary policy to occur sooner rather than later, even in the face of an anemic economic scenario." He also said inflation pressures were too high and that inflation was a concern for the entire FOMC committee, and not just himself.
Fed Chairman Ben Bernanke repeated a speech he delivered on May 13, in which he said financial market conditions were "far from normal." He acknowledged that recent measures from the Fed have had some positive effects, but that fundamental strains will take time to address.
On Wednesday, Federal Reserve Governor Frederic Mishkin announced he will be leaving his post effective Aug. 31, 2008 in order to return to teaching at Columbia University. Mishkin has been a member of the Fed's Board of Governors since Sept. 5, 2006. Mishkin's term was set to expire on Jan. 13, 2014.
Minneapolis Fed President Gary Stern said on Wednesday that inflation expectations will be determined by how the Federal Reserve raises rates. Stern said the Fed is "highly sensitive" to the threat of higher prices, but that inflation expectations are reasonably well-anchored. He added that inflation is too high for comfort, but that he is confident the Fed will act to achieve its mandate on prices. On housing, Stern said the downturn looks more severe than the 1990s shock, noting that the residential housing inventory remains large and the market adjustment is ongoing.
Earlier in the week, San Francisco Fed President Janet Yellen (non-voter) said current interest rates are "appropriate" for encouraging growth and that the real Fed funds rate is near zero. Speaking to the Financial Planning Association of Northern California, Yellen said low interest rates and the fiscal stimulus should help to spur growth and that she expects a gradual return to moderate growth in 2008.
In a question and answer session with reporters, Yellen said weak economic growth in the United States was not enough to justify a further cutting of interest rates and that it would take some dramatic changes to change the Fed's mind. She also said that rising inflation would probably push the Fed to reverse interest rates sometime soon, but that the central bank would have to be cautious in doing so.
The release of the Federal Open Market Committee's (FOMC) March 31-April 30 minutes this week showed that seven district banks had voted for no change in the discount rate in an effort to slow inflation. The Boston Fed was the lone bank to vote for a half-point cut in the discount rate. Four banks had requested a 25bp cut to the Fed funds rate as they expressed concern about the near-term prospects for economic activity.
Bank of Canada
Current Rate: 3.00%
Next Rate Decision: June 10
Market Expectations: According to BAX Futures Contracts at the Montreal Exchange and using a 20bps premium, markets are pricing in an 82% chance for a 25bp cut at the next meeting.
A weaker-than-expected Canadian GDP reading released Friday has raised the odds of a Bank of Canada rate cut when it decides rates on June 10. Canada's real GDP fell for the first time since the second quarter of 2003, largely the result of widespread manufacturing cutbacks and poor weather, Statistics Canada reported Friday. GDP in the first quarter edged down 0.1% following a 0.2% increase in the fourth quarter. On a monthly basis, GDP fell 0.2% in March following a 0.3% decrease in February.
"While most of the weakness was due to huge slice in inventories, many of the other spending categories were a bit more sluggish than expected," noted Douglas Porter, deputy chief economist from BMO Capital Markets. "Even so, we continue to maintain that the softness in real GDP gives a highly distorted picture of how the broader economy is faring - real income growth remains buoyant. Still, the weak results keep the door wide open for at least one more rate trim by the Bank of Canada in June."
Jacqui Douglas, economics strategist from TD Securities, said, "For anyone who was doubting that the Bank of Canada would cut rates again at its next FAD on June 10, (Friday's) GDP report should erase any doubts, and confirm the markets' expectations for a 25bps rate cut."
Reserve Bank of Australia
Current Rate: 7.25%
Next Rate Decision: June 3
Market Expectations: 99% chance of a hold (OIS Implied rate).
The Reserve Bank of Australia is the first of the three banks to announce rates in the week, with the consensus nearly unanimous in calling for a hold.
"We expect the Bank will hold rates steady but firm up a very clear tightening bias in the Governor's associated statement," noted Bill Evans, chief economist at Westpac. "The decision to highlight in the Board Minutes of the May meeting that the Board discussed the possibility of raising rates indicates that the Bank wants to signal that it has a clear tightening bias."
Evans noted that the policy that was adopted initially at the April meeting will remain in place. "That policy is to hold rates at a clearly contractionary level for an extended period in the expectation that growth will slow substantially and inflation pressures will ease," he said.
Over the longer term, economists from ANZ are expecting the RBA to continue to raise rates, looking for a rise by 50 basis points in the second half of 2008, adding they are expecting the first 25 basis point move at the August monetary policy meeting. "A second tightening is less certain but could come in response to a combination of higher than expected growth, rising inflation expectations and accelerating wage outcomes," they wrote in a client note, suggesting that the most likely timing for the second rate hike is November.
European Central Bank
Current Rate: 4.00%
Next Rate Decision: June 8
Market Expectations: 76% chance of a hold, 24% chance of a 25bp hike (EONIA Implied Rate).
The European Central Bank is widely expected to continue to leave rates on hold when it announces interest rates on Thursday.
At his regular press conference following the announcement, ECB President Jean-Claude Trichet will probably maintain a familiar hawkish tone, "perhaps adding to speculation that interest rates could yet rise further," noted economists from Capital Economics in a client note. "The press conference will provide a clearer steer on the ECB's own thoughts regarding the appropriate path for monetary policy."
There were plenty of ECB speakers throughout the week, including Trichet, who reiterated that the U.S. needed to underline that a strong dollar was in its own interests, in an interview with the French news magazine L'Express published on Wednesday. Trichet said second-round inflation effects must be avoided and urged unions and firms to be "alert". Trichet also said that he saw ongoing financial market correction and suggested that "the worst may not necessarily be behind us."
Speaking at a news conference in Jerusalem on Monday, Trichet said policy lessons were learned after the financial crisis in Asia in 1997, but declined to discuss monetary policy issues. Trichet also stated that he saw an "ongoing market correction" due to the current market rout.
Speaking at a press conference at the Austrian National Bank in Vienna on Tuesday, ECB Governing Council member Klaus Liebscher reiterated that he saw no room to consider the ECB relaxing its stance and that it was still too early to speculate inflation already reaching its peak. Liebscher suggested that inflation would remain at around 3% this year due to ongoing pressures from energy and food prices, only to fall slowly to just above 2% in the following year.
Speaking to Austria's weekly Aerzte Woche on Monday, Liebscher suggested that it may take time for markets to recover from the effects of the current financial crisis and that there was no reason to panic.
The Austrian central banker also provided comments to Austria's Kronen Zeitung newspaper and stated that domestic demand would help fuel economic growth in the euro zone
In a speech published by the Financial Times on Tuesday regarding the necessity of monetary analysis, European Central Bank Executive Board member J?Stark reiterated that price stability remains the ECB's goal and that the availability of bank loans to euro zone firms has not been markedly impaired by the current market crisis so far.
Speaking at a conference in Lisbon, European Central Bank Governing Council member V?r Constancio said the average rate of growth in Europe next year will be lower than in 2008. He also said the European economy will enter 2009 at a decelerating pace and called the economic slowdown is "a problem." Despite the continued slowdown, Constancio said he sees an improvement in the financial sector.
In an interview cited by the Financial Times, European Central Bank Executive Board member Jose Manuel Gonzalez-Paramo was quoted as saying that commercial banks have not become dependent on the liquidity injections from the ECB. "I don't think in any way the banking system is become addicted. They are behaving a little bit differently that they were before August 2007, but the reasons behind that are quite obvious," he said.
Gonzalez-Paramo also stated that the ECB will continue to conduct long-term open market operations and offer liquidity in return for various types of assets.
Speaking at the University of Groningen in the Netherlands on Monday, European Central Bank Governing Council member Nout Wellink said the financial crisis' impact on the economy was still unclear. Wellink also suggested that the upcoming data on M3 money supply growth will be harder to interpret due to the market rout.
While inflation expectations in the euro zone are still well anchored at or around 2%, European Central Bank Governing Council member Nout Wellink stated that it was difficult to forecast future inflation developments due to current volatility in oil prices.
Bank of England
Current Rate: 5.00%
Next Rate Decision: June 5
Market Expectations: 72% chance of hold, 18% chance of a 25bp hike (SONIA Implied Rate)
All eyes will be on the Bank of England's rate decision next week, which many economists say will be a hold at the current 5.00% level.
Some economists recently suggested the bank's next move would be a cut, but many now say the BOE will be wary of cutting rates given the UK's 3% headline CPI inflation level. On May 23, the International Monetary Fund urged the BOE to tighten up its interest rate policy or it will have no choice but to raise interest rates. The IMF said it sees no scope for further cuts and stated that if inflation begins to drive up wages, policy-makers should not hesitate to raise rates.
"A June rate cut now looks out of the question following April's dreadful inflation news. Indeed, cuts look off the agenda for the next couple of months at least," said Vicky Redwood, an economist at Capital Economics. "With rates set to stay at a restrictive level for most of this year, sharp falls next year are looking even more likely. We have pencilled in rate cuts in August and November - meaning that we now expect interest rates to end the year at 4.5%, rather than our previous forecast of 4%."
There was not much news from the Bank of England this past week, which was shortened as a result of the bank holiday on Monday.
On Thursday, speaking in an interview with the Leicester Mercury, BOE monetary policy-maker David Blanchflower said that while he was concerned about rising food and oil prices, he did not want to see a dramatic slowdown in economic growth for the UK, adding that the BOE had to ensure the economy did not go into a recession. He also pointed out that while inflation was above target, the bmedium-term inflation forecasts point to a slowdown in prices.
Bank of Japan
Current Rate: 0.50%
Next Rate Decision: June 13
Market Expectations: 93% chance of a hold, 7% chance of a 25bp hike (OIS Implied Rate).
It was a quiet week for the Bank of Japan, though BOJ Governor Maasaki Shirakawa made an appearance before the financial committee in Japan's upper house of parliament on Tuesday.
Current interest rates are appropriate given current economic conditions, Shirakawa said, adding that the BOJ was paying close attention to longer-term interest rates, which fell outside the Bank's realm of influence. Nevertheless, the central bank governor said that stable economic growth and long-term prices would help settle long-term rates of return.
"Uncertainty over the outlook for the economy and prices remains extremely high. Under such conditions, it is inappropriate to have a preset direction for monetary policy," he said.
On Thursday, speaking in Yamagata, Japan, Bank of Japan Monetary Policy Board member Hidetoshi Kamezaki reaffirmed the BOJ's outlook of mixed risks on prices and growth and the importance of a flexible monetary policy in light of high uncertainties. The central banker also said that sharp swings in long-term interest rates were undesirable but declined to comment on current bond yields. He also said that while rising commodity prices could help some emerging markets, the moves would have repercussions on Japanese growth.
The BOJ's next interest rate decision will be announced on June 13, though rates are expected to remain on hold.
By Stephen Huebl and edited by Nancy Girgis