Aurelia Butler

FRANKFURT/LONDON (Reuters) – In just a few short weeks, the balance of power at the world’s top central banks has shifted to conservatives, heralding the biggest wave of policy tightening in years. Yet the rapid retreat of doves in the face of sky-high inflation increases the risk of a policy error as economic fundamentals are not changing as fast as policy sentiment. The problem is that central banks are under social and political pressure to deal with soaring prices that sap household incomes, erode wealth and dominate the news cycle. But monetary policy is ineffective in curbing near-term price pressures and action now will only start to take effect when inflation is likely to be retreating sharply anyway. Still, the European Central Bank put a 2022 rate hike on the table on Thursday and the Bank of England raised rates a quarter percent with a big minority pushing for an exceptionally big 50 basis point interest rate hike. These moves came just days after the U.S. Federal Reserve signalled a series of rate increases, with the first one likely coming next month, possibly followed by three more moves this year.With the ECB joining the hawkish camp, the Bank of Japan remains by far the biggest outlier, not even contemplating policy tightening as inflation there remains stuck below target.”Central banks cannot ignore something that has attracted this much popular attention,” Paul Donovan an economist at UBS Global Wealth Management said. “The result has been a rather difficult ballet, trying to stress that they still realize inflation is worthy of attention but at the same time suggesting it’s not a problem that requires an urgent policy response,” he said. “None of the major central banks seem to have got the ballet quite right.”ECB chief Christine Lagarde gave the social consideration an important nod on Thursday.”We know that the burden is first and foremost borne by those who are most vulnerable, most exposed and who face the day-to-day hardship of having to put up with higher prices,” she said. “I can assure you that that concern was across the board and around the table in equal numbers.” ERROR?To be sure, early action is not futile. Quick moves could prevent high inflation from becoming entrenched if companies, whose wage decisions influence future price moves, believe that central banks will not tolerate deviations from their target. Inflation is without a doubt painfully high. In the euro zone, it hit a record high of 5.1% last month and could still go higher, while in Britain, the peak could be over 7% later this year. But there is nothing monetary policy can do about global commodity prices like oil, gas and grains, the big drivers of inflation. And inflation will quickly retreat from its peak. In the euro zone, it could be back around 2% by near the turn of the year. In Britain it could take another year to get to the target but the drop in the second half of the year is still going to be rapid.Given these limits on policy effectiveness, the swing in favour or policy hawks has been too big for some. “The doves have thrown the towel,” Bank of America (NYSE:BAC) said.”The risk of this ending up as another ‘Trichet moment’ is not zero,” the bank said, referring to the ECB’s 2011 rate hikes to temper a small inflation bump on the eve of the bloc’s debt crisis, arguably the biggest policy error in the institution’s history. Indeed, one ECB policymaker who asked not to be named, confirmed that policy doves, in the majority for over a decade, are dwindling in numbers.”In March they (the hawks) will probably be a majority and we’ll have to make a decision,” he said. “The first thing is to accelerate the tapering and only after we’ll consider a rate hike.”Some also see a similar risk at the Bank of England.”The risk of a policy mistake is probably rising,” UniCredit economist Daniel Vernazza said. BoE Governor Andrew Bailey attempted to temper expectations, warning that while further rate hikes are possible, investors should not get “carried away” and he stressed the “very difficult balance” facing the central bank.That message was mixed for some, appearing as though the bank was trying to cater to several interests at the same time. “It came across as an awkward attempt to be hawkish and dovish at the same time, with the bank seeming to be caught between fear of the 1970s redux and of amplifying a slowdown driven by a record squeeze on real disposable income and driving the UK economy into recession,” analysts at consultancy Evercore said. More

LONDON (Reuters) – Two top Bank of England officials stressed on Friday the need for restraint on pay rises, a day after the British central bank sought to head off inflation running at a 30-year high by raising interest rates again.Governor Andrew Bailey said rising wage pressure threatened the BoE’s ability to keep a grip on inflation, even as households faced the biggest calendar year squeeze on their incomes since at least 1990.”I’m not saying nobody gets a pay rise, don’t get me wrong, but I think, what I am saying, is we do need to see restraint in pay bargaining otherwise it will get out of control,” Bailey told BBC radio in an interview broadcast on Friday.”We are looking, I think, to see quite clear restraint in the bargaining process because otherwise, as I say, it will get out of control. It’s not at the moment, but it will do.”The hit to living standards is posing a major challenge to the government of Prime Minister Boris Johnson, who is also battling to keep his job after criticisms over social events in Downing Street during lockdown.Finance minister Rishi Sunak announced measures to ease the hit from a 54% leap in energy costs in April, when higher social security contributions are also due to kick in.BoE Chief Economist Huw Pill, asked by Bloomberg Television if he agreed with Bailey’s call for a slowdown in pay increases, said: “You’re not going to get me to criticise my boss,” before echoing some of the concerns.”A key assumption in our forecast… is that we don’t see from the middle of next year, persistence emerging in wage and domestic cost developments, stemming from these second-round effects,” Pill said.”It’s that lack of that, the fact that policies including monetary policy do enough to avoid that, that is central to bringing our inflation back towards target. If we were to see developments that were not consistent with that assumption, then of course, we would have to think about further action.” On Thursday the BoE raised borrowing costs for the second time in two months, taking its Bank Rate to 0.5%. Nearly half its policymakers wanted a bigger increase to 0.75%.The BoE said consumer price inflation – which was 5.4% in December – was set to hit around 7.25% in April on the back of surging energy costs before dropping, and post-tax income for working households would fall by 2% this year.Bailey said the BoE faced a “very difficult balance” to steer the economy between the pain of falling living standards and the fight to bring down inflation.The BoE on Thursday flagged further modest tightening “in the coming months”.Investors on Friday added to their bets on borrowing costs rising at the BoE’s next meetings with rate futures pointing to Bank Rate hitting 1.0% by May and almost 1.5% as soon as August. Bank Rate stood at 0.75% before the pandemic swept Europe, which prompted the BoE to cut it to all-time low of 0.1%. More

LONDON (Reuters) – European stock indexes faltered on Friday, despite strong Amazon earnings, while a sell-off in bonds briefly pushed Germany’s 5-year yield positive for the first time in four years after the European Central Bank was more hawkish than expected.Asian equities held firm overnight after better-than-expected earnings from Amazon (O:AMZN), in contrast to the heavy selling on Thursday following Facebook (NASDAQ:FB) owner Meta Platforms’ earnings miss.The rebound in sentiment did not persist in European trading, with the STOXX 600 down 1.2% at 1150 GMT.But Nasdaq futures were up and the MSCI world equity index was set for its best week so far this year.”What the earnings season tells you is that the underlying prospects of companies are still pretty good,” said Michael Metcalfe, head of macro strategy at State Street (NYSE:STT).”I tend to think that the buy-the-dip mentality is still there.”Market sentiment has been dominated by speculation about the trajectory for rate hikes from major central banks this year, as pressure mounts for policy moves to combat inflation. Rate hikes typically hurt riskier assets such as stocks.In a move labeled by analysts as a “pivot,” European Central Bank President Christine Lagarde was more hawkish than expected at the central bank’s meeting on Thursday. She acknowledged mounting inflation risks and declined to repeat her previous guidance that an interest rate increase this year was “very unlikely.”The euro jumped on Thursday and extended its gains on Friday, hitting a three-week high. At 1152 it was up 0.3% on the day at $1.14745.”Central banks are actively trying to tighten financial conditions… they are moving faster than expected,” said Colin Asher, senior economist at Mizuho.European government bond yields also rose. Germany’s 5-year yield briefly turned positive as traders priced in ECB rate hikes this year. Germany’s 2-year yield was set for its biggest weekly rise since 2008.”In other markets, we’ve got a series of hikes priced in and so it may well be now that European markets have to digest the possibility of that,” said State Street’s Metcalfe.”When central banks have pivoted, rate markets have pivoted even more and have tended to overshoot, so I think there’s probably a risk of that in Europe.”The U.S. 10-year yield was at 1.812%. Investors expect the U.S. Federal Reserve to begin hiking rates at its March meeting [IRPR]. Morgan Stanley (NYSE:MS) said markets were now facing “the largest quantitative tightening in history” from May onwards, with G4 central bank balance sheets set to shrink by $2.2 trillion over the next 12 months.”We forecast the ECB’s balance sheet to actually shrink faster than the Fed’s from May 2022 to May 2023.” Morgan Stanley’s Andrew Sheets said.But Australia’s central bank was still content to keep policy ultra-loose in its quarterly statement on monetary policy, even as it sharply revised up its outlook for inflation and projected unemployment at 50-year lows.The Bank of Japan brushed aside the view that it could follow in the footsteps of its more hawkish U.S. and European peers.The dollar index was steady at 95.205, while the Japanese yen was at 114.85 and the Australian dollar was down 0.7% at $0.709.The cryptocurrency bitcoin has strengthened in the past week but, at just under $38,000, remains far below the all-time high of $69,000 it hit last November.Elsewhere, oil prices were headed for their seventh straight weekly gain, with U.S. WTI crude at a seven-year high.U.S. jobs data is due later in the session, but market focus is more on U.S. inflation figures due next week, which could influence the Fed’s policy and rates markets, State Street’s Metcalfe said. More