On the BoE monetary policy

The Bank of England has increased its main rate by 25 basis points to 0.5%.

Two reasons to explain this movement

1 – The British economy has changed and its productivity trend is much lower now than before the crisis. This means that the risk of overheating is associated with a lower growth rate than before the crisis. Therefore the BoE has to move more rapidly than in the past, the equilibrium BoE interest rate is lower.
Nevertheless, if Brexit is a source of weakness according to the BoE it is not a source of rupture (this can be discussed). The economic scenario of the BoE is quite optimistic as it suggests that productivity growth could improve converging to the momentum seen in other developed countries. Continue reading

Are the Fed’s interest rate projections credible?

At the FOMC meeting on September 19 and 20, members charted the central bank’s so-called dot plot of expected rates for the years out to 2020, involving one interest rate hike in 2017, three in 2018, two in 2019 and only one in 2020, leading to an end figure of 2.875% vs. 1.125% currently. These figures published by the Fed are generally extreme, as the US central bank endeavors to influence investors’ expectations to suit its own narrative. Continue reading

The Fed normalizes its monetary policy but is not optimistic

As expected, the Federal Reserve has decided to start the process of reducing the size of its balance sheet. It will start next month in October. Details of the operation were presented in June and are available on a post send earlier today.

During her press conference, Janet Yellen has clearly announced the hierarchy between the two instruments the Fed can use to manage its monetary policy. The main instrument remains the fed fund interest rate. In “normal” time, this is the instrument that must be used by the FOMC to manage its monetary policy. The purchases of assets could become again an instrument for the Fed if the situation is exceptional. The interest rate is the rule and the assets’ purchase is the exception. But it was a relevant question as the current level of the fed fund is too low to have a strong impact on the economic activity in the case of a negative shock. A quantitative adjustment could be necessary. Janet Yellen sees a kind of complementarity between the two and the two instruments must remain in the central banker toolbox.  Continue reading

The US Federal Reserve in unknown territory

Written with Aline Goupil-Raguénès

During today’s meeting, the probability is high that the Federal Reserve will decide to reduce the size of its balance sheet.
This latter started to increase at the end of 2008, first when the Fed was a provider of liquidity to the banking sector, and second when the US central bank started to purchase assets on a large scale. Few figures will give the scale of the transformation; in 2007 on average the size of the balance sheet was USD 830bn, it is now close to USD 4 500bn. As percentage of GDP the change is impressive from 5.7% on average in 2007 to 23% during the second quarter of this year.
Many questions are associated with this new step in the normalization of the US monetary policy. That’s the reason of this post and of the attached detailed document which is more technical but also more precise on the way it will work. Continue reading