Clear or confusing? Central bank communication skills put to the test

Financial markets, which this year have tried to decipher the signals about the future of monetary policy sent by central banks, face their biggest challenge to date in December, when in the space of 24 hours the Federal Reserve (Fed), the Banco Central Europea (ECB) and the Bank of England (BoE) they hold crucial meetings.

They come to the end of a year in which central banks have shaken the markets on a number of occasions, with the most recent examples being the BoE’s surprising “no-change” decision on November 5, the drift in the ECB’s rate outlook. in October and the failure of the Reserve Bank of Australia to defend its bond yield target.

It is therefore not surprising that, a week before the last series of meetings in 2021, the volatility indices of the prices of various assets soar, with the volatility indices of currencies and bonds reaching highs of several months.

On December 15, the Fed’s statement could announce an acceleration of the reduction of its asset purchases, in addition to revealing its position on future rate hikes.

The following day the BoE meets, which in November countered the market’s bets by keeping its interest rates intact.

Less than an hour later, the ECB could announce its plans for two key bond buying programs. The implications could be significant for highly indebted states like Italy.

Monetary policy messages, by their very nature, are an uncertain matter. But unexpectedly persistent inflation, supply chain threats to economic recovery, and the ongoing background threat from the COVID-19 pandemic make decisions especially difficult to anticipate.

“Whether it is (ECB President) Christine Lagarde, Andrew Bailey (BoE Governor) or Jerome Powell (Fed Chairman), current circumstances are creating almost a perfect storm of challenges for bank communication. centrals, ”said Carl Tannenbaum, chief economist at Northern Trust.

The value of global equities is approaching $ 100 trillion, nearly double pre-pandemic levels. Increased government spending has boosted bond markets. When trading large valuations, the potential for pullback is huge.

And the impact of future prospects resonates far beyond the markets: UK banks were so confident of a rate hike in November that they had raised home loan costs ahead of the BoE meeting.

What central banks need to convey is simple: that they will provide needed short-term support and long-term price stability. But in inflated markets, where sentiment changes in an instant, it is more difficult than it seems.

This can cause communication strategies to be rethought: Bailey, for example, suggested reverting to a position in which future perspectives are not facilitated.

Richard Barwell, a former BoE economist who is in charge of macroeconomic analysis at BNP Paribas Asset Management, says central banks would want to retain the option of tightening their monetary policies, but without committing to it.

“The challenge is to make the necessary change – and create that option – without destabilizing the markets by convincing them that the option is going to be exercised safely,” he said.

Unreliable couples

Barwell said any bank that proceeds with a tightening of its monetary policy in December will have to explain its decision in light of the omicron variant of the coronavirus. But then the risk is that markets will rule out future rate hikes.

That’s especially a problem for BoE Governor Bailey, who, according to Barwell, has a big problem.

“There may be a limit to the number of times policy makers can take the market to the top of the rate hike hill and then lower it again,” he added.

The British media quickly dubbed Bailey “unreliable couple number 2,” updating a nickname applied to his predecessor Mark Carney, whose signals on monetary policy sometimes did not translate into action.

ECB chief Christine Lagarde was also criticized after her tepid rejection of rate hikes scheduled for 2022 in late October boosted the euro and hurt bonds. But the movements were reversed the following week, when the official vigorously contested the rate hikes.

Powell seems to have gotten top marks, mostly because of his willingness to admit he doesn’t have all the answers.

But even his calm faltered recently, days after telling US lawmakers that the omicron variant could jeopardize the economic recovery, suggesting that it might be time to stop viewing inflation as transitory.

The dollar, which had weakened, soared again after his statements.

But Timothy Graf, State Street’s head of macro strategy for Europe, the Middle East and Africa, praised Powell for his “honesty,” drawing parallels to the outspoken frankness of former ECB President Mario Draghi, who is credited with bringing out the euro zone from its crisis of 2011-2012.

“The Fed is correcting course from what was perceived at the beginning of the year, rightly or wrongly, as a somewhat relaxed approach to the inflation issue,” Graf said.