Delivering the first cuts in interest rates since the early days of the pandemic was the easy part. The coming year is likely to be rich in nuance: Inflation won't scale the heights of 2022, but officials are skeptical it will return to the ultra-low levels that prevailed before the pandemic. That means borrowing costs will retreat in most economies, though not aggressively, and without many declarations of victory.
For the authorities that have yet to trim, such as the reserve banks in Australia and India, watch for a reduction in the next few months. They can still keep policy restrictive — an ill-defined region that holds the economy back — and bring rates down a little. China, wrestling with a dour outlook and the specter of deflation, has been cautiously easing for a while. The risk is that Beijing does too little rather than too much.
Here are some things to consider:
The market isn’t (quite) everything
It’s fashionable in some financial precincts to disregard what central bankers profess. Markets are right, according to this philosophy, and officials are always a step or two behind. But it's worth listening carefully to how the people making the decisions view the world. The experience of 2024 bears this out: Back in January, markets predicted as many as six cuts by the Federal Reserve, worth about 175 basis points. The Federal Open Market Committee itself was more circumspect and delivered three cuts. So while it’s tempting to pooh-pooh insiders as being too cautious, or alternately, too reckless, what they articulate does really matter. Don't be so quick to discard it.
Beyond data dependency
It’s fine to be attentive to data — we wouldn't want officials to ignore indicators of economic health. That's different from being the prisoner of data, especially on a monthly basis. Reluctance to go out on a limb lest a particular report makes you look a little silly has gotten in the way of projecting an overall strategy. If there’s a good story to tell, officials should tell it. If they don’t, someone else will, and it’s likely to be unattractive. Too often, hints about the outcome of the next few policy meetings are crowded out by caveats, such as the need to get through the following month’s reports on jobs and prices. That’s understandable, but gets in the way of a broader narrative. It puts too much emphasis on the short term, and not enough on the medium to long run.
Bring forward guidance in from the cold
Once seen as an integral part of successful policymaking, the art of telling investors what you will do before you do it has fallen out of favor. It was a casualty of the post-Covid price spike, along with the use of words like “transitory.” Having been caught off guard by inflation’s surge a few years ago, and enduring no small degree of public opprobrium as a result, officials became reluctant to look too far into the future. But as increases in the cost of living return to something like normal, it's time to consider re-embracing forward guidance. For a long time, it worked. The idea was to give investors confidence in the likely rate path and minimize market disruptions when shifts did occur. It’s worth giving such counsel another shot.
Beware of easy labels
The hawks versus doves framework for describing the stance of a central bank can obscure as much as illuminate. Much of the posture that earns a person a reputation as being inclined toward tighter — or looser — policy is very conditional. The idea that a member of the Bank of Japan's board, for example, can be considered hawkish when they are said to favor hikes to 0.5% or even 0.75% from a touch above zero would be laughable in almost any other country. Most policymakers worth their salt have been spotted as all kinds of birds over the course of their career. But underlying conditions tend to drive responses, rather than ideological leanings.
Be imaginative
It feels like we just got over the recent bout of inflation — if we are truly past the experience (US voters listed it as a top concern when they returned Donald Trump to the White House). So I was taken aback to hear Swiss National Bank President Martin Schlegel extol the benefits of negative rates, which seem like a relic of a more benign era. However, it may not be too soon to start reconsidering. Schlegel professed to dislike paying people to borrow, but recognized the potency of the idea in an interview with Bloomberg Television. After Dec. 12's bigger-than-expected rate cut, the SNB is within shouting distance of zero. The Swiss employed a subzero policy for almost eight years to stem speculation in the franc, and its retirement a few years ago was seen as the end of the low-inflation era. Its re-emergence, though couched in theoretical terms, reminds us that inflation could surprise again — this time on the downside.
The coming 12 months are likely to be more tricky. The first rate cuts since the start of the pandemic were welcome. It would be prudent to look for more variation in 2025. Some countries will press forward with further reductions quickly, others are likely to be more cautious. Signals may be harder to read. Be sure you are listening to the right policymakers, not just those with a great affinity for microphones. And, please, give the hawk-dove narrative a bit of a break. The economic world will be too complicated for such tags.
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