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Can the ECB bolster expectations for action?


Can Mario Draghi bolster expectations for action?

This week brings the European Central Bank’s annual forum in Sintra, Portugal — for investors, a must-watch powwow among central bankers, academics and economists on “monetary policy issues”.

This event is frequently a market-mover, notably marked in 2017 by ECB president Mario Draghi sending the euro soaring with his assertion that the “threat of deflation is gone”.

This year, there will be no shortage of topics to discuss.

Mr Draghi is in a tricky spot. After the central bank’s latest rate decision, he dropped some heavy hints that further monetary stimulus, in the form of rate cuts or even bond purchases, is a possibility, given the gloomy global economic outlook. But markets have so far largely failed to respond to his usual charms. Bunds have rallied, but mostly on geopolitical fears, while the euro has held firm. Policymakers are unnerved by traders’ reluctance to buy into Mr Draghi’s message, but investors are questioning whether the central bank really has the scope to unleash another round of firepower, and what will happen when Mr Draghi steps down in October.

Adding to the pressure on Mr Draghi, market-based expectations for future inflation suggest that investors have little faith that the rate will come back up to the ECB’s target. Sintra provides a forum for the ECB president to try and turn that around. Katie Martin

Will the Fed confirm a likely rate cut?

The Federal Reserve’s policymakers’ meeting on Wednesday is the biggest event for financial markets this coming week — with the potential to reinforce the recent recovery or douse it with cold water.

Although pretty much every economist polled by Bloomberg expects the central bank to hold interest rates steady at 2.25-2.5 per cent — and markets are pricing in only a 20 per cent chance of a cut — the expectation is that officials will strongly hint that easier policy is in the mail. The Fed funds futures market indicates that there is an overwhelming likelihood of a rate cut in July, and some investors, such as Pimco, are arguing that a half percentage point cut is a possibility. The Fed likes to be predictable, and if it expects to ease monetary policy in July, it will probably want to signal that strongly at this week’s meeting.

However, that could set markets up for a fall, should the Fed fail to hint at a coming rate cut. Some officials have clearly sent a signal that they are inclined to trim interest rates, but others have not. Fed chair Jay Powell has been non-committal, even though he has insisted that the central bank will be “nimble” and monitor the economic data for signs of worrying weakness. Jan Hatzius, Goldman Sachs’ chief economist, has broken with his Wall Street peers and predicted the Fed won’t even cut rates later this year.

“The committee faces a tricky balancing act,” he said in a note. “On the one hand, chair Powell and his colleagues need to keep signalling that they would respond to large adverse shocks by easing policy. On the other hand, they will not want to feed the expectation that cuts are imminent . . . In such an environment, the right course of action is to retain optionality.” Robin Wigglesworth

Could the Bank of Japan surprise at its monetary policy meeting next week?

Japan’s central bank will hold its next monetary policy meeting in Tokyo on Thursday and with expectations for a rate cut from the US Federal Reserve growing, some have begun to speculate that the Bank of Japan could move in tandem to offset the impact of a dollar weakened by US easing.

For now, at least, that prospect remains a long shot, as analysts expect no action from the Fed at its own monetary policy meeting next week. Marcel Thieliant, senior Japan economist at Capital Economics, says that while the Japanese economy is expected to soften as the year wears on, the BoJ “remains concerned about the impact of low interest rates on financial stability and we think it will keep policy settings unchanged for the foreseeable future”.

The pressure on Japan’s economy could mount if other central banks begin to cut rates and drive up the yen, and the currency’s haven status could get a further boost from panicked investors if the US and China fail to reach a deal at the G20 summit in Osaka at the end of this month.

What might finally force the bank’s hand, Mr Thieliant says, is the sales tax rise slated to take effect on October 1 — but only if it puts a serious dent in consumer demand. Given that previous tax and interest rate rises in Japan were soon followed by recessions, that is a real possibility. Hudson Lockett



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