In September, the U.S. Federal Reserve at last followed suit with the ECB and the Bank of England and cut its policy rates for the first time since March 2020. But the Fed marked its difference, favoring a significant 50-basis-point cut instead of a more gradual 25. At least on that point, the suspense is over. But the rest of the story has yet to be written. We know the broad lines (rates should continue to decline), but not all the details with certainty (the total number, the timing, and the pace of the next rate cuts).
As explained by Jerome Powell for the Fed, but this is also true for the ECB and the BoE, these details will depend on the incoming data, the evolving outlook, and the balance of risks. It seems that Jerome Powell puts on an equal footing these three determinants of monetary policy decisions, but in practice, the focus can differ. Indeed, the Fed and the ECB have often communicated on the fact that they were data-dependent, maybe too much - the question arises, while the BoE seems to rely more on its forecasts and perhaps not enough on existing data.
Yet the long lags in monetary policy transmission justify central banks being forward-looking and thus rely on their forecasts. It justifies that they are proactive, preventive and less in reaction to the data, which are rather backward-looking. In the jargon of central bank's watchers, the central banks should be ahead of the curve rather than behind the curve. Needless to say, it is easier said than done.
Besides, when the central banks say they are data-dependent, they do not have a look at one data point in isolation, while the financial markets tend to react this way and focus on one particular figure. The central banks do have a look at a broad set of data and at the big picture they give of the current situation, the outlook and the balance of risks.
Today, this big picture describes a much less concerning inflation situation in the United States and Europe. On the growth side, the signs are more mixed. Indeed, in the Eurozone, the growth still lacks momentum and the US labour market is showing clear signs of cooling. The Fed has clearly been sensitive to this deterioration, triggering a large preventive rate cut in September with the objective of not falling behind the curve. But at the same time, despite progress, the battle against inflation is not yet fully won and the economic situation and outlook remain also, so far, globally positive. And this calls for a very fine-tuning of monetary policy and for a gradual pace of rate cuts.
Thank you for your attention and see you soon for a new edition of EcoTV.
