Powell says Fed has room to cut monetary policy


The relationship between unemployment and inflation became weak
Chief Investment Office12 Jul 2019
Photo credit: AFP Photo


US

Federal Reserve Chairman Jerome Powell suggested that the central bank has room to ease monetary policy as the tie between the inflation and jobless rates has broken down.

“The relationship between unemployment and inflation became weak” about 20 years ago, Powell told the Senate Banking Committee Thursday (11 July). “It’s become weaker and weaker and weaker.”

The Fed chief, under pressure from US President Donald Trump to lower borrowing costs, has made a strong case to reduce rates at the central bank’s meeting later this month to offset weakness stemming from a global slump in manufacturing and business confidence linked to trade tensions.

The Fed chief stressed at his second day of congressional testimony that the US economy is “in a very good place”. He said the central bank wants “to use our tools to keep it there”.

Powell told Senators that the so-called “neutral rate”, or policy rate that keeps the economy on an even keel, is lower than past estimates have put it – meaning monetary policy has been too restrictive.

Fed officials in fact, marked down their estimate of the longer run policy rate to 2.5% in June, from 2.8% in March. Investors fully expect a quarter-point cut at the Fed’s 30-31 July gathering, according to pricing in interest rate futures, though odds were dialled back a bit after a stronger than expected US inflation report earlier on Thursday.

New York Fed President John Williams, speaking on Thursday, said that the argument to ease had strengthened and the central bank wants to “extend this expansion, and have monetary policy in the right place to do that”.

 At the congressional hearing in Washington, Powell received bipartisan support for his independence at a time when the Trump administration is openly attacking Fed policies. Powell deflected a question about whether this complicated policy making.

Trump discussed firing Powell in late 2018 and asked White House lawyers earlier this year to explore options for removing him as Fed chairman, Bloomberg has reported. When answering a similar question Wednesday during his testimony before the House Financial Services Committee, Powell said he would not leave even if Trump tries to fire him. – Bloomberg News.

The S&P 500 Index gained 0.23% to 2,999.91 on Thursday (11 July). The Dow Jones Industrial Average climbed 0.85% to 27,088.08 while the Nasdaq Composite Index dipped 0.08% to 8,196.04.

 

EUROPE

Serbia’s central bank unexpectedly cut borrowing costs, taking advantage of a stronger currency and slowing inflation to steal the march on the world’s major economies before they kick off monetary easing.

With the US Federal Reserve signalling looser policy, Serbia reduced its benchmark by a quarter point to 2.75% on Thursday (11 July) for the first move lower in 15 months. A weaker outlook for the Euro Area economy may bring more European Central Bank stimulus and further boost capital flows into higher yielding markets.

“A slower normalisation or a new cycle of monetary policy relaxation by the major central banks should positively affect the global financial markets and capital flows to emerging markets,” the central bank said in a statement. “Inflation will continue to move within the target band, most probably around the lower bound until the end of this year and during next year.”

The central bank has been trying to slow dinar appreciation, buying a record amount of euros in the past month. The interventions have prevented the stronger currency from tightening conditions for businesses too much, while also helping support economic policies of President Aleksandar Vucic.

The dinar was less than 0.1% weaker against the euro after the decision. Central bank Governor Jorgovanka Tabakovic, a senior member of Vucic’s ruling party, has taken a careful stance on rates to avoid triggering a dinar selloff as the country relies on foreign bond investors to finance the budget and repay debts.

As part of that effort, the bank bought EUR1b (USD1.12b) in the foreign exchange market between last month’s rate decision and 9 July. That helped keep the dinar from gaining more than 0.5% against the euro this year. But it still allowed appreciation, which may help the government meet a key pledge by Vucic ahead of elections next year to lift the average wage to EUR500 a month by end 2019.

Slowing inflation and economic growth have also boosted arguments for a rate cut. Consumer price growth was 2.2% in May, below the midpoint of central bank’s 1.5%-4.5% tolerance band. Output grew 2.5% in the three months through March, the weakest quarterly expansion since 2017. – Bloomberg News.

The Stoxx Europe 600 Index slid 0.12% to 386.70 on Thursday (11 July).

 

JAPAN

More investors turned bearish on Japanese stocks, even before companies start reporting quarterly earnings that some analysts say will decline.

Singapore’s biggest bank, DBS Group Holdings Ltd, became one of the latest institutions to lower their weightings on the country’s shares, citing everything from a stronger yen to concern about the fallout from the US-China trade war.

Last week (ended 5 July), DBS cut its recommendation to underweight in its asset allocation for the third quarter, pointing to weaker exports and a stronger yen.

And with Japan Inc’s quarterly reporting season kicking off this month, analysts are not expecting strong results.

Warning signals have already flashed elsewhere in Asia. Samsung Electronics Co Ltd said last week that quarterly net income more than halved after a global industry downturn and trade tensions hammered demand. And it is not just Asia. The world’s biggest chemical maker BASF SE cut its 2019 sales and profit targets Monday, blaming a deepening economic slowdown and the China-US trade spat.

The key for Japan’s earnings season will be when more than 2,500 companies report in the last week of July and first week of August. Investors will be keeping an eye on currency assumptions from exporters and profit forecasts for the rest of the year.

The latest bear calls add to an already bleak picture for Japanese shares. Overseas investors have sold a net JPY7.5t (USD69b) since the start of 2018, while the Topix has dropped 17% from a 26-year high in January last year. The benchmark index is up 5.7% this year, but it is still the worst performer among 24 Developed Markets tracked by Bloomberg. – Bloomberg News.

The Nikkei 225 Index inched up 0.09% to 21,662.49 on early Friday (12 July). It rebounded 0.51% to 21,643.53 the previous session.

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