The refrain that central banks are the driving force in markets is certainly not new but it has become ever shriller over the last three months. The pre-eminence of the Fed (FOMC) has also been reasserted despite Mario Draghi’s barnstorming. Until now most investors have done very nicely out of it, especially those who exploited, out of either cynicism or naivety, faith in the ‘Bernanke put’ (the successor to the saving grace of the ‘Greenspan put’). This klondyke has not met with universal approbation, most recently even from some of the big winners, as asset prices have become ever more detached from corporate fundamentals as well as political and macroeconomic developments.
Chart 1. US Dollar Trade-weighted: peaking or just pausing?
Chart 2. S & P 500: spooked by the Fed
Over last few weeks, sensing a major change in market mood, I have tried to analyse different mind-sets amongst both central bankers and investors. A striking feature of the FOMC in 2015 is that, despite the retirement of the two most vocal hawks, the balance has swung from delusion on the efficacy of QE and ZIRP (Zero Interest Rate Policy) through bafflement as to why they are not working to realism that they might eventually do harm. This progression was highlighted last week by speeches on monetary policy from both the Chair Janet Yellen and the increasingly influential Vice Chairman Stanley Fischer. ‘Normalisation’ loomed large in both speeches and it is clear that there is no ‘Yellen put’ to save investors from themselves. However, there was also perhaps too much self-justification over prolonging QE & ZIRP and not enough fretting over debt levels and asset price bubbles. If even a realistic FOMC is still determined to keep the faith on the efficacy QE and ZIRP then it makes it more difficult for the Bank of England’s MPC to move on. Chief Economist Andy Haldane’s scholarly kite-flying on lowering Base Rates has fortunately been countered by some realism from Deputy Governor Ben Broadbent. Elsewhere the majority of the ECB Governing Council and the Bank of Japan’s MPC remain in the deluded camp with a new lever to pull in depreciating their currencies, while in China it seems to be the paranoid Government pushing a reluctant PBoC towards ZIRP and unlimited credit.
Chart 3. Euro trade-weighted: a ‘good’ quarter
Chart 4. DAX: Vielen dank, Herr Doktor President Draghi
The supreme irony of all the delusion, bafflement, cynicism and naivety is that monetary policy globally has reached its limits and will need to be ‘normalised’ before it does much more harm. It does not matter whether the FOMC hike rates in June or September but hikes it surely will and their counterparts elsewhere will have to follow. Whether or not central bankers are willing to admit it, the reality is that QE and ZIRP (NIRP even less) cannot on their own re-stimulate global demand. In the coming months, therefore, attention will switch back to fiscal policy but in this too most governments seem unable, if also unwilling, to achieve much.