Central Banks to Hold Rates, Loosen Tongues

Monetary policymakers take the stage the week of June 1 to June 5 as three major central banks have interest rate announcements. There are no changes expected from the Reserve Bank of Australia (RBA), the European Central Bank (ECB), or the Bank of England (BoE). What is expected is a healthy dose of rhetoric. Current economic conditions do not warrant direct intervention, thus the policymakers will take the opportunity to share their views with the market regarding their respective economies.

RBA to Hold as Capital Investment a Concern

The RBA has tried to be proactive this year by cutting rates twice already. On February 2, the Australian benchmark interest rate was lowered to 2.25%, an all-time low. Citing a stronger Aussie and a weak economy, the central bank cut rates again in May 5 to 2%. In both cases, the market had anticipated these monetary policy actions because Governor Glenn Stevens made numerous statements about the strength of the currency hurting the economy and soft internal demand. The RBA is hoping that the current rate is enough to spur consumer spending, and get corporations to make capital investments by taking advantage of the low rates. But will it work? If it does, it’ll give Australia’s economy a badly needed boost.

Macroeconomic conditions do not setup expectations for another Australian rate cut so soon after the last one. A strong USD has helped depreciate the AUD which traded at 0.8140 in May 15, and now trades in the range of 0.7650/60. Economic growth forecasts continue to be subdued Down Under. That won’t encourage additional easing further down the line. Listen closely to the words Stevens uses in the policy statement; they will probably be tinged with pessimism. The market is still pricing a rate cut before the end of the year as the current levels have boosted the construction and housing industries, but not enough to offset the losses in the mining-related industries.

ECB to Balance QE with Greek Drama

The ECB is pleased with the positive results its €1.1 trillion quantitative easing (QE) program has achieved to date. There is no expectation of a rate change announcement next week. Even the expected verbal intervention by ECB President Mario Draghi will probably not be as impactful to the EUR as were the comments by French policymakers on May 19. Benoît Coeuré, a member of the ECB’s executive board, revealed the ECB will front-load its debt purchases to avoid an excess of bond buying during the quiet summer trading days. Christian Noyer, another ECB executive board member, said the ECB could go beyond the QE amounts already announced in order to hit its inflation target. The two statements reassured markets of the commitment from the eurozone’s policymakers to stick with its stimulus program until Europe’s economy shows signs of sustainable growth.

The EUR/USD regained some ground after those comments, only to have the economic reality of growth to lead the pair back above 1.10. The situation facing the ECB on the Greek front has not affected the EUR significantly, but remains a concern as the International Monetary Fund (IMF) repayment deadline approaches. The central bank is worried not only about the current debt talks bearing no fruit, but the effect it can have in other nation’s debt markets. There is a growing chorus of officials warning of the possibility of a Grexit.

BoE Unfazed by Deflation

The British benchmark rate is expected to remain at record low 0.50% when the BoE takes the stage on Thursday. The United Kingdom’s economy has slowed down from the impressive pace it achieved in 2013. The last quarter of 2014 saw a cooling of the optimism which made the BoE revise its forecasts ahead of last May’s U.K. federal election. With an empowered Conservative government firmly established in London, the BoE can now focus on inflation, or in this case, deflation. Governor Mark Carney has reiterated that the current deflationary state is transitory. Lower global oil and food prices have driven inflation down as consumers have not spent at the same rate with a net downward pressure on inflation.

Meanwhile, the Old Lady was caught in the headlines for leaked email communications that showed preparations for how the bank would handle the possibility of Great Britain exiting from the European Union. The project, called “Bookend,” is the bank’s main strategy to deal with a potential aftermath if the referendum planned for 2017 results in that reality.

The pound continues its downward trend after disappointing gross domestic product (GDP) data in the first quarter of the year. The GBP has fallen versus both the EUR and USD after a 0.3% growth was reported on a forecast of 0.4%. Interest rate divergence with the Federal Reserve, which is expected to raise rates before the end of the year, has depreciated the pound versus major currency pairs.

Central banks events to watch this week:

Tuesday, June 2 12:30 a.m. — AUD RBA rate statement

Wednesday, June 3 8:30 a.m. — EUR ECB press conference

Thursday, June 4 7:00 a.m. — GBP official bank rate

*All times EDT

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