The situation on the ground

​​​​​Today's news headlines:

  • ‘White House vows to resist impeachment inquiry’. Democrats have been told that the US administration will not co-operate with the impeachment investigation into President Trump. The White House counsel, Pat Cipollone, banded the inquiry in breach of the constitution as Trump was being denied his right to call witnesses in his defence, among other violations. Democratic speaker, Nancy Pelosi, fired back claiming that failure to co-operate would constitute further evidence of obstruction, telling Trump that he is ‘not above the law’ and ‘will be held accountable’. (Financial Times)
  • ‘Tory party faces split over any no-deal election manifesto’. At least 50 Conservatives would boycott a general election manifesto that pledges to pursue a no-deal Brexit according to members of the government. Many are now expecting a general election as it’s looking less likely that Boris Johnson will be able to reach a deal, and will instead have to seek a delay to the UK’s departure. One member of Johnson’s government stated that it would be lunacy to endorse the idea of no-deal as the desired outcome, adding that it would be problematic to find support amongst other parties. (Financial Times)

Take off the training wheels

The Bank of International Settlements (BIS) conducted a review of ‘unconventional’ monetary policy tools over the past decade and concluded that the effectiveness of such tools is not diminished in the current zero, or near-zero, interest rate environment. This is a pretty important point for Fed watchers. 

Over the past several months, the divergence in views at the Federal Open Market Committee (FOMC) policy-setting meetings has been based on two broad classes of argument. The first view is that monetary policy is not the correct tool for the economic slowdown, because monetary policy works by reducing borrowing costs and inducing spending. The situation on the ground is, in fact, the reverse; borrowing costs are at historic lows as the Fed’s rate approaches zero, so the Fed should ‘keep its powder dry’ for a serious downturn. The other view agrees that policy is less effective around a zero setting, so we need to move swiftly and strongly to head off a recession. The result is that those of the former view votes to keep rates on hold, those of the latter view vote for 0.5% cuts.

The BIS report had some really important conclusions that may result in a move towards the centre. It says that policy rates aren’t necessarily less effective at zero because it found a combination of policy tools (much like the European Central Bank’s last announcement) to be the most effective. This revelation removes the wind from both argument’s sails. If the effectiveness of policy remains even around the dreaded ‘zero lower bound’, then the Fed has no need to ‘keep its powder dry’ nor to get ahead of a slowdown for fear its policy tool are becoming impotent. That leaves Chair Powell’s preferred approach, data dependence, in which The FOMC isn’t forecasting outcomes but rather reacting to the data at each policy meeting.

Bottom line: Trade and political uncertainty have caused quite a lot of disruption to global spending and investment, so a lack of consensus on monetary policy only adds more noise. This is how we end up in a circumstance where banks are easing policy, but because of the lack of agreement on the exact prescription, we end up less certain, not more supported. Having a policy tool review that examines efficacy and application across countries is a great step toward a more unified view among policymakers and clearer communication to the market. Obviously, this will require a lot of time and discussion among policy wonks to overcome strongly-entrenched views, but it’s a step in a positive direction nonetheless.

GBP/USD

We saw a steady move lower throughout yesterday’s trading session as Brexit devolved into a blame game between the UK and Ireland, contributing to the pessimism that a deal cannot be reached. We finally saw some support around the 1.22 mark, and we’re yet to see a meaningful break below this figure. Still, the pair has finally accelerated below all its recognised moving averages, adding to the bearish outlook.

GBP/EUR

Both the Sterling and Euro trade-weighted indexes fell yesterday as a risk-off tone boosted gold and the US Dollar. We saw Sterling fall more significantly than the Euro, resulting in a move lower for the pair below the 1.12 mark. This morning, the pair is targeting a break below the 100-day moving average (around 1.1136).

EUR/USD

Worries over the US-China trade dispute strengthened the safe-haven Dollar yesterday afternoon after a moderately bullish start took the pair close to the psychologically significant 1.10 level. The Euro has regained some ground this morning, moving back towards yesterday’s highs, with only the Fed meeting minutes to come later today which may influence the pair further.