What the central banks did next

The Federal Reserve and other leading central banks are declaring the peak in global interest rates has been reached and are readying to start the march down.

As the world economy weakens amid the U.S.-China trade war and inflation continues to undershoot the target of most policymakers, Fed Chairman Jerome Powell is set to oversee the first cut to the U.S. benchmark in a decade.

European Central Bank President Mario Draghi has also flagged action, though he may wait until September, and even Bank of Japan Governor Haruhiko Kuroda may come under pressure to join in. The People’s Bank of China has eased lending conditions but so far held fire on rates, but Australia, India, New Zealand and Russia are among those to have already injected fresh stimulus into their economies

Here is Bloomberg Economics’ quarterly review of seven of the top central banks. We outline the issues they face in 2019 and how they might respond.

U.S. Federal Reserve

• Current federal funds rate (upper bound): 2.5%
• Forecast for end of 2019: 2%

Fed Chairman Powell has clearly signaled an interest rate cut is coming at the central bank’s meeting later this month and the question is whether he’ll advocate for a half-point reduction or stick with a more cautious quarter-point move. The Fed chief, under fire from President Donald Trump for raising rates last year, has highlighted uncertainties over Trump’s trade policies and weakening global manufacturing output. These could undermine the record U.S. expansion by sapping business investment, which has weakened despite low unemployment and solid consumer spending.

Powell has assured Americans that the central bank is committed to keeping the economy on track. With inflation running below the Fed’s 2% target, officials have scope to ease, though some may worry at fanning investor appetite for risk amid hefty corporate borrowing and with U.S. stocks around record highs. Powell in the past has cautioned that the last two U.S. recessions were caused by asset bubbles: the housing market collapse in 2008 and the end of the dot.com boom in 2000.

What Bloomberg's Economists Say: “As he testified before Congress, Fed Chair Powell chose not to reshape market expectations which were leaning heavily toward a July cut of 25 bps, further illustrating that the Fed is not willing to fight market sentiment following the clumsy execution of its final rate hike in the fourth quarter of last year. Bloomberg Economics anticipates 50 bps of cuts this year. Following a 25 basis point cut at the July meeting, we expect policy makers to attempt to string market expectations of the second move through to December, depending on the tone of incoming data.” — Carl Riccadonna & Yelena Shulyatyeva

European Central Bank

• Current deposit rate: -0.4%
• Forecast for end of 2019: -0.5%

ECB policy makers acknowledge that lingering global uncertainties may deepen the euro area’s slowdown, and are readying for additional action such as interest rate cuts or renewed asset purchases. Investors and economists expect the deposit rate to be reduced by September, and many see quantitative easing being relaunched before the year is out.

Draghi is poised to leave office in October as the only ECB president to never have raised interest rates. His successor, IMF Managing Director Christine Lagarde, is widely seen as continuing his accommodative stance. She's scheduled to begin her new role on Nov. 1, the same day the U.K. plans to start life outside the European Union, and faces an immediate economic shock if Britain fails to strike a Brexit deal.

What Bloomberg's Economists Say: “Sentiment has soured, inflation is stubbornly weak and Europe may become the next major casualty of protectionism. The ECB has already indicated stimulus is coming and we expect the full monty — a rate cut, relief for banks and relaunch of QE at 45bn euros a month. For maximum impact, this should come as a package, alongside fresh forecasts in September. The risk is that action on rates comes sooner.” — Jamie Murray

Bank of Japan

• Current policy-rate balance: -0.1%
• Forecast for end of 2019: -0.1%

The BOJ is likely to keep its policy settings unchanged for now. Governor Kuroda told Bloomberg in June that the central bank can still deliver big stimulus, but said no action was warranted. Economic growth data for Japan has proven stronger than expected, giving policy makers more confidence in the resilience of domestic demand, and effectively putting to bed talk of postponing a sales tax increase in October. Prime Minister Shinzo Abe’s government also seems less concerned about the BOJ’s inflation goal these days, putting less pressure on Kuroda to act. Abe told lawmakers ahead of a July upper house election that his real economic goal was achieving full employment, not 2% price growth.

Still, a majority of economists polled by Bloomberg expect the bank’s next policy step will be extra easing at some point. Many of them flag a sharp gain in the yen, prompted by likely U.S. rate cuts.

The BOJ’s current pledge is to keep interest rates extremely low until around spring next year as it assesses the impact of the tax hike on the economy. As the tax increase approaches, the BOJ may want to reaffirm its easing commitment by extending its guidance without referencing the tax.

What Bloomberg's Economists Say: “The BOJ is unlikely to budge for the foreseeable future regardless of inflation slowing and external pressures increasing. Even so, part of its strategy may be to give the 10-year yield a little more wiggle room and a tweak of its forward guidance. The yen will be important in the calculus going forward — appreciation toward 100 per dollar would probably put the BOJ on guard.” — Yuki Masujima

Bank of England

• Current bank rate: 0.75%
• Forecast for end of 2019: 0.75%

Governor Mark Carney has noted the darkening outlook over the U.K. since global trade tensions flared up. The extension of the Brexit deadline also prolonged the uncertainty that’s holding back companies’ investments. After stockpiling boosted growth in the first quarter, the economy probably stagnated or even contracted in the second.

All that has led to a widening gap between the BOE’s forecasts for gradual rate hikes, which assume a smooth Brexit, and the market’s view that rate cuts are next on the agenda.

The search for Carney’s successor, who will take over in February, is also clouded by the change in government, which means that current Chancellor of the Exchequer Philip Hammond probably won’t still be in the job when it’s time to make the appointment. And if the departure from the European Union goes badly in October, Carney will certainly have his hands full until he leaves.

What Bloomberg's Economists Say: “The combination of uncertainty about Brexit and a slowdown in global growth has put the brakes on the U.K. economy this year. Looking to the second half, there are few signs of those headwinds abating. We expect quarterly growth to stay below trend and average 0.3% in 2H while CPI inflation is likely to remain below target over the same period. That gives the BOE room to keep rates on hold while it waits to see the how the new prime minister moves forward with Brexit. With the clock ticking, reaching a deal by October 31 looks increasingly ambitious. At the same time, Parliament appears ready to stop a no-deal exit. That leaves the prospect of another Brexit delay and more policy paralysis.” — Dan Hanson

Bank of Canada

• Current overnight lending rate: 1.75%
• Forecast for end of 2019: 1.75%

Governor Stephen Poloz reinforced the view he’s on hold indefinitely after he kept the Bank of Canada’s overnight rate at 1.75% for a sixth straight meeting in July and gave little indication he’s prepared to follow the global move toward easier policy.

Canada’s economic resurgence in the second quarter buys Poloz time to gauge whether U.S.-China trade tensions resolve themselves or deepen. So does the recent stabilization in the country’s housing market. While most observers agree the central bank will be on hold until through 2020, some economists question how the country can withstand a deceleration in the U.S., its largest trading partner. Markets are also leaning in that direction, pricing in about 15 basis points of cuts over the next year.

People’s Bank of China

• Current 1-year best lending rate: 4.35%
• Current 7-day reverse repo rate: 2.55%
• Forecast for end of 2019: 4.35%; 2.48%

Markets are raising their bets the PBOC will need to take bigger easing steps to revive tepid growth. Economists expect the bank to provide long-term cheap liquidity by reducing reserve-requirement ratios for commercial lenders, and forecasts of a cut in open-market borrowing costs are growing.

Consumer inflation is now close to the policy target of 3% and will probably stay there for a few more months, but that won't likely be a key constraint for monetary policy as core inflation remains low. Factory-gate prices, arguably a more important inflation gauge, will flirt with deflation throughout the year. The trade truce reached by China and the U.S. at the G-20 meeting in Osaka eased the pressure on the yuan. The jobless rate has fallen a little but policy makers are still closely watching the situation. The country is expected to keep the full-year current account in a small surplus if oil prices stay muted.

What Bloomberg's Economists Say: “China’s top policy makers showed some indications of looking beyond the current downturn to tackling long-term structural reforms. The weakening economic outlook will probably force them to re-focus on stabilizing cyclical growth and step up policy support - on both the fiscal and monetary fronts. The government is likely to buttress the economy with further infrastructure spending. The PBOC will probably step up stimulus. If the higher U.S. tariffs remain in place for an extended period, the PBOC could cut the RRR by another 150 basis points and reduce the benchmark interest rate by 50 bps by year-end, with one 25-bps cut in 3Q and another in 4Q.” — David Qu

Reserve Bank of India

• Current repo rate: 5.75%
• Forecast for end of 2019: 5.5%

The RBI has been the most aggressive rate cutter of any major central bank this year, lowering borrowing costs by 75 basis points to take the benchmark rate to a nine-year low. Inflation remains below the central bank’s medium-term target of 4%. And with a budget from new Finance Minister Nirmala Sitharaman that has shown commitment to fiscal prudence, Governor Shaktikanta Das might have room to lower rates even more in coming months to support economic growth that has slumped to a five-year low.

What Bloomberg's Economists Say: “We expect the RBI to continue with its policy easing – likely with a 25 bps rate cut at the August 7 meeting and a total of 50 bps by March 2020. The RBI is now also keeping the banking system flush with liquidity, in line with its accommodative stance. Surplus liquidity conditions bode well for the transmission of its policy rate cuts into lower borrowing costs in the economy. This should help drive a V-shaped recovery in growth in the current quarter.” — Abhishek Gupta

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