In 2024, the year of interest rate cuts, which has attracted much attention, more signals of easing are beginning to emerge.
On June 20th local time, the Bank of England's dovish stance suspended the benchmark interest rate and kept it unchanged at 5.25%, but hinted that it was close to the first drop. The Bank of Norway and others also chose to keep the interest rate unchanged. The Swiss central bank, on the other hand, announced two consecutive interest rate cuts, easing inflationary pressures and leading to the appreciation of the Swiss franc due to political uncertainty in Europe, which is an important reason for the Swiss central bank's actions.
In a series of recent central bank interest rate resolutions, the actions of the Bank of England have received much attention, with seven consecutive meetings holding their ground. Seven members of the nine member Monetary Policy Committee (MPC) support maintaining interest rates unchanged, while two believe that interest rates should be lowered, consistent with the results of the May meeting.
However, it should be noted that the minutes of the Bank of England meeting indicate that for some members, the decision to keep interest rates unchanged is a "delicate balance", indicating that the Bank of England may be closer to a rate cut. Money market pricing shows that the likelihood of the Bank of England cutting interest rates in August is over 50%, compared to only 32% before the decision was announced. Traders also raised their expectations for a rate cut within the year, almost digesting two 25 basis point rate cuts.
Behind the Bank of England's inaction, the pace of interest rate cuts is actually getting closer and closer. More and more central banks around the world are on the path of interest rate cuts or have already cut rates, and relaxing monetary policy is the trend.
Why is the Bank of England holding back from meeting inflation targets?
At the end of 2022, the inflation rate in the UK peaked at 11.1% and has since significantly improved.
On June 19th, data released by the UK Office for National Statistics showed that the year-on-year increase in CPI in May decreased from 2.3% in April to 2.0%, in line with expectations. The core inflation rate, excluding energy, food, alcohol, and tobacco, decreased from 3.9% in April to 3.5%, which is also in line with expectations. However, the annual inflation rate in the service sector, which the Bank of England has been closely monitoring, has only dropped from 5.9% to 5.7%.
Dong Zhongyun, Chief Economist of AVIC Securities, told 21st Century Business Herald reporters that the UK's CPI in May has dropped to 2%, mainly due to the decline in food prices. However, the core inflation rate in May was 3.5%, and the service inflation rate was 5.7%, which is still at a high level. Behind this is that the UK's salary growth rate is still at a high level, with the latest average weekly salary growth rate in April being 5.5% year-on-year. The Bank of England must address the issue of high core inflation in order to sustainably return to its target of 2%, as the current high wage growth rate may pose a risk of recurrent inflation. Therefore, in this context, it is reasonable for the Bank of England to maintain a cautious attitude towards interest rate cuts.
As the overall CPI falls to 2%, the Bank of England expects a slight increase in CPI in the second half of this year, with energy prices still providing support for inflation. The unemployment rate has remained relatively stable in recent quarters, which means the labor market is slightly tighter than official data shows. Some members believe that the key indicator of sustained inflation is still relatively high, particularly concerning the potential second round effects of service industry prices, strong domestic demand, and wage growth.
Inflation in the service industry and avoidance of suspicion in elections are important factors for the Bank of England to remain stagnant. Li Yingting, a researcher at the Bank of China Research Institute, told 21st Century Business Herald reporters that although the UK CPI has fallen back to the central bank's target range, there is still stickiness in serving inflation. In May, catering and hotel prices increased by 5.8% year-on-year, only a slight decrease of 0.3 percentage points from 6.1% in April, and still face high inflationary pressure. At the same time, as the UK general election approaches, the economic situation is one of the important topics of debate between the Conservative and Labour parties, and interest rate cuts will have a certain impact on the UK's economic performance. Although the Bank of England emphasizes that interest rate decisions will not be affected by the election, avoiding significant adjustments to monetary policy during the election may still be a factor for the Bank of England to maintain interest rates unchanged.
Although the inflation rate in May in the UK slowed down to the Bank of England's target level of 2% for the first time in nearly three years, service industry price growth is still close to three times this level, and cautious and intermittent interest rate cuts will remain the main tone of monetary policy in the future.
Dong Zhongyun analyzed that currently, it is difficult for European and American central banks to provide forward-looking guidance with high certainty on the direction of subsequent monetary policy. The main mode is to closely monitor major inflation and economic indicators, and make timely decisions. Therefore, if the subsequent salary growth rate and service industry inflation in the UK can continue to cool down, the UK is likely to enter a rate cutting cycle. However, it is expected that wage growth and service industry inflation will not experience a very rapid decline, which means that the central bank still needs to constantly balance the potential risks of easing, and the process of interest rate cuts will not be very smooth and fast.
Swiss Central Bank unexpectedly lowers two consecutive levels
In March of this year, the Swiss central bank unexpectedly lowered its benchmark interest rate, becoming the first developed economy central bank to cut rates. Now, as major central banks hesitate, the Swiss central bank has once again lowered interest rates.
On June 20th local time, the Swiss Central Bank announced its latest monetary policy decision, announcing another 25 basis point cut in interest rates to 1.25%, in line with market expectations. After the decision was announced, the US dollar rose against the Swiss franc.
It should be noted that Switzerland's inflation rate remained stable at 1.4% in May, and the price increases over the past 11 months have been within the target range of 0-2% set by the Swiss central bank. The Swiss central bank claims that prices are currently stable. The Swiss central bank also announced a reduction in inflation expectations, with an expected inflation rate of 1.3% in 2024, 1.1% in 2025, and 1% in 2026.
In terms of economic outlook, the Swiss central bank expects the economic growth rate to be around 1% this year and will accelerate to around 1.5% by 2025. The Swiss Central Bank stated, "In the medium term, economic activity should gradually improve with the support of slightly increased overseas demand."
Why did the market unexpectedly cut interest rates continuously despite the expectation that the Swiss central bank would temporarily remain silent after the initial cut?
Dong Zhongyun analyzed that the easing of inflationary pressure provides feasibility for the Swiss central bank to lower interest rates, while curbing the rise of the Swiss franc, easing export pressure, and boosting domestic economic expectations provide necessity for the Swiss central bank to lower interest rates. From the decision of the Swiss central bank, it can also be seen that its focus is on stabilizing the economy, preventing and responding to external risks by relaxing monetary conditions.
In addition, the situation between Russia and Ukraine, as well as the "right turn" in European politics, will increase the uncertainty of future European politics. In this context, the continuous interest rate cuts by the Swiss Central Bank may have a ripple effect on other major European central banks, increasing the probability of other central banks cutting interest rates within the year.
The recent strengthening of the Swiss franc against the euro may be an important factor in the decision of the Swiss central bank to cut interest rates. UBS analyst Alessandro Bee said that the market began to worry about French debt and the upcoming French election, which may become a factor that the Swiss Central Bank does not want the Swiss franc to appreciate excessively. But the possibility of further interest rate cuts in the future is becoming increasingly limited, and Switzerland is approaching a nominal neutral interest rate level of around 1%.
On an official level, Swiss Central Bank President Jordan stated that the central bank will continue to prioritize inflation issues, with interest rates as the central bank's main tool and supplemented by foreign exchange intervention measures.
How far can the wave of relaxation go?
In early June, the Bank of Canada and the European Central Bank (covering Germany, France, Italy, etc.) had already lowered interest rates, and more than half of the G7 countries had already embarked on a path of turning. Apart from the "alternative" Bank of Japan, the Bank of England and the Federal Reserve would also lower interest rates sooner or later, and the trend of global central bank monetary policy turning is gradually emerging.
Li Yingting analyzed that the probability of the Bank of England lowering interest rates in August is currently high. One is for the Bank of England to further release the "dovish signal". The meeting minutes stated that behind the rise in service inflation, some indicators in the inflation basket only reflect annual changes and some indicators have significant short-term fluctuations, so they have not significantly changed the downward trajectory of inflation. The second is the weakening of the labor market. From February to April 2024, the labor force participation rate in the UK was 74.3%, lower than the 75.9% in the same period of 2023. In April, the UK unemployment rate slightly increased to 4.4%, and a cooling labor market will provide more space for the Bank of England to lower interest rates.
The Federal Reserve may make its first cut in September. A series of recent US economic data have performed poorly, with 238000 initial claims for unemployment benefits recorded last week, higher than the expected 235000; In May, the construction of new homes in the United States decreased by 5.5%, the lowest level in four years. The construction of new homes decreased from 1.35 million in April to 1.28 million.
More and more central banks have already lowered interest rates or are on the path of lowering them. To what extent may this wave of interest rate cuts ultimately develop? In the future, it is important to be cautious that the relatively hawkish Federal Reserve may indirectly limit the space for other central banks to lower interest rates.
The interest rate chart released by the Federal Reserve in June is expected to only cut interest rates once this year, and the relatively hawkish monetary policy is also supporting the US dollar. On June 20th, the Bloomberg US dollar spot index rose 0.2% to close at 1267.71 points, the highest closing level since early November last year. In the current market environment, the US dollar is increasingly favored by more and more foreign exchange traders.
Meanwhile, non US currencies are once again under pressure. Taking Asian currencies as an example, major currencies including the Japanese yen and Korean won have recently faced a new round of depreciation pressure. On June 20th, the Japanese yen fell against the US dollar for six consecutive trading days, marking the longest consecutive decline since March. At the close, it was close to 159 yen per dollar, the lowest closing level since April 1990.
From various signs, this round of global easing may not go too far. Dong Zhongyun analyzed to reporters that the US dollar is the most important international currency, which makes the Federal Reserve's monetary policy have a significant spillover effect on the world. The interest rate level of the US dollar indirectly affects the monetary policy choices of non US economies through global capital flows, exchange rates, and other channels. This makes the interest rate levels of non US economies usually converge with the trend of the US dollar interest rate. The Federal Reserve's interest rate cut is expected to drive the world into a new round of interest rate cuts, and there will be certain concerns about non US central banks implementing easing before the Federal Reserve's interest rate cut. In the long run, the anti globalization trend may raise the future global inflation center, which may mean that the endpoint level of future interest rate cuts will be higher than before this round of interest rate hikes.