Central Banks hold sway

Low volatility gives them time.

Since the financial crisis, Central Banks, particularly in the G7 had taken a back seat allowing their extraordinary policies to take effect but as the expectations if not yet the reality of higher global inflation has taken effect, they have had to start to act again.

It is a well-known fact that Central Banks generally like to remain “ahead of the curve” being proactive rather than reactive to global issues and their own specific domestic agendas. As globalization has taken hold, a one size fits all sense of monetary policy has taken over. There will always be exceptions as we have seen recently in the UK but the growth in inflation there had a very specific cause and it is now starting to come back into line.

As liquidity grows in the FX market, volatility has been dampened and spreads have narrowed considerably.

The first quarter of 2018 saw Central Banks really start to come to the fore again and they were given time to assess what is needed by a market which was in no mood to test their mettle.

It is naive to believe that because Central Banks aren’t making headlines like in the days of Greenspan and Bernanke that they are not influencing the market. They still make subtle adjustments, often in harmony to keep the currency market in lone.

BoE next up in rate hike challenge.

The Bank of England is the next G7 Central Bank to face the prospect of raising interest rate in the face of a market that is willing to give them the benefit of the doubt. Another factor of the Central Banks benign neglect is that their influence has been diluted a little. It is only now that their decisions are not being questioned and traders are allowing them the leeway to exercise changes to policy waiting to see the effect before judging them the only way they know how.

The inflation data seen in the UK for February took the wind out of the Bank of England’s sails, but it appears that the MPC are still determined to hike rates next month. The March inflation report is due for release two weeks from today and if there is a fall in headline CPI like last month the BoE may need to revise its plans.

The employment report will be released the following day, and should CPI have fallen, the positive and growing gap between incomes and prices will still provide them with sufficient ammunition to hike.

A May hike will almost certainly invoke the buy the rumour sell the fact rule since the next hike is probably going to be some way in the future.

Euro to remain hemmed in

Despite a subtext in which it could easily be a lot lower, the Euro has been trading in a narrow range for an extended period. The 1.2240 floor has been tested a few times since the rally which saw the common currency make a year’s high of 1.2556 but it has always bounced back often driven by a weakening dollar.

Despite the lingering concerns about what will happen when the ECB tapers the Asset Purchase Scheme, and the bad loan portfolio can no longer be ignored, the timing of the first rate hike is still the major driver.

It is still viewed as “unlikely” during the tenure of Mario Draghi as it is almost “written” that he will be the first Central Bank Head in memory to have never presided over a hike in interest rates. Of course, he took over at a spectacularly difficult time and has managed to plot a course back towards something resembling prosperity in the region despite truly horrendous banking data.

Just how bank’s capital adequacy will look once the bad loan issue is finally faced is a matter exercising a significant number of analysts and economists but in the short term Central Bankers can start to flex their muscles again.


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