Tags: Market | Anomaly | Central | Bank | Policies | Legacy

Glaring Market Anomaly Is Legacy of Central Bank Policies

Glaring Market Anomaly Is Legacy of Central Bank Policies
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Thursday, 29 June 2017 09:21 AM Current | Bio | Archive

It’s really interesting to see how financial markets are these days so geared up to listening what central bankers say about their respective monetary policies rather than looking at the real data.

The problem with central bank speakers when they try to get their messages across is that their words are so finely nuanced, it should not come as a surprise that their words can easily be misinterpreted.

About the Fed’s tightening path there is no doubt the Fed’s going to do it.

Now, to speculate, as markets do for the moment, that the Bank of England (BOE) or even Draghi of the ECB will start monetary policy tightening, under whatever form that could eventually be, anytime soon could be, at least in my opinion, a big mistake.

No doubt, there is too much noise in the markets these days.

Please don’t take me wrong. All central banks would like to normalize their monetary policies, but with exception of the Federal Reserve, their respective economic conditions still don’t allow it.

Maybe it’s good the keep in mind that central banks, at least “Good central banks” are run by economists. This is something everyone can be very grateful for as the more things economists run, the better the world is from an economic standpoint.

Many investors repeatedly forget that economists are “not” traders.

Economists exist to challenge data to find floors in the numbers and to try and get to the truth of the matter amidst the noise of fake news.

The truth of the matter is that the world economy is at present relatively advanced in its recovery. Growth is, of course not everywhere, at trend or even somewhat above; inflation is at its long-run average and in some cases above; employment is strong; unemployment is below average levels.

The glaring anomaly in markets is the legacy of central bank policies.

Economists do not get worked up by a quirk in consumer price inflation or a single data point weaker than expected.

Looking at the underlying trends, a modest pace of monetary and/or quantitative policy tightening is in order.

This adjusted world view continues to push the euro somewhat higher, and some people, not economists, have immediately raised questions about whether a strong euro would derail Euro area growth.

The first point is that the euro is stronger, but the euro is not strong. Please keep in mind that at today’s levels, the euro is below fair value.

The second point is that the euro moving like it did over the past couple of days is very unlikely to influence the real economy. 

Companies do not change import and export prices in response to a currency move of this scale. Commodities being the perpetual exception.

A move like this therefore changes profit margins, but it does not change the volume of goods and services that are exported or imported. Thus, GDP remains largely unaffected by this sort of currency shift.

This morning, expected inflation for Spain for June came in at 1.5 percent y/y, which was down from 1.9 percent in May.

The German numbers will be published later in the day.

Notwithstanding the ECB is signaling a more normal inflation outlook, that does not mean that consumer prices (CPI) will have to rise inexorably over the course of this summer.

Indeed, headline inflation rates could be at risk of moderating somewhat, as is the case in Spain. This is because of the price of oil effects on headline CPI. This says very little about the underlying inflation pressures in the EU economies. Inflation pressures remain relatively strong in Germany.

From the U.S. there is the third estimate of the first quarter GDP.

This data is useful only in highlighting how “unhelpful” real-time data can be.

The initial data release, which markets reacted to, showed the U.S. economy growing at 0.7 percent annualized during the first quarter. Revisions, almost doubled that number by taking it to 1.2 percent.

There will be more revisions in the future, of course, and the reality of how strong the U.S. economy really was in the first quarter is not going to be clear for several years.

Markets react less to the revisions than to the initial data release, but Fed policy makers use revised data like today’s data and ignore the initial release when considering how to set monetary policy.

Etienne "Hans" Parisis is a bank economist who has advised global billionaires and governments on the financial markets and international investments.

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The glaring anomaly in markets is the legacy of central bank policies.
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Thursday, 29 June 2017 09:21 AM
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