It looks as though the interesting economic times suggested in my last posting may be upon us very soon. The Federal Reserve's press release after the latest 2-day FOMC meeting is far from hawkish. There is to be no immediate reduction in the $85 billion per month pace of asset purchases (the so-called quantitative easing program), and the statement stresses that even when QE does come to an end, an accommodative monetary policy is likely to remain appropriate for some time to come.
Even with that emollient tone, however, the Fed's suggestion that it saw both lower downside risks to the economy and signs of declining unemployment was sufficient to put the wind up global equity markets. And this, of course, is very significant. If markets sell off when the central bank forecasts higher economic activity, it's reasonable to infer that the gains posted by the US equity market in the first half of 2013 have been driven not by investor perceptions of underlying economic strength, but by the tsunami of cheap money that the Fed and other central banks have seen fit to unleash.
This, then, is where things get challenging for the Fed. Under previous management (Maestro Greenspan, that is), the very fact that equity markets sold off would have been sufficient to prompt the Fed to keep the spigots wide open. That's what we used to refer to as the Greenspan Put. It remains to be seen whether Chairman Ben Bernanke will prove more stoic if investors take fright for more than a few days. If he backs away, it may be time to start strapping on the inflation hedges again. There's also the further complication that Bernanke's term as Chairman ends early in 2014, and he has already indicated (smart man!) that he wants to return to academe. The new Chairman (or, very possibly, Chairwoman) is going to face some serious challenges.
North of the border, meanwhile, new Bank of Canada Governor Stephen Poloz has set out his stall, making his first public speech at a fairly low-profile event just outside Toronto. There's a link to the speech on the Bank's website here. When Governor Poloz was appointed, it was widely expected that he would continue the general policy stance of his predecessor, Mark Carney. Poloz's first speech confirmed this: the Bank's 2% inflation target will continue to be at the centre of its policy decisions, as the Bank sees the target as a crucial tool in creating greater certainty for businesses' and households' economic decisions.
In other respects, however, there were signs that Poloz will be less abrasive than Carney. There was no talk of firms hoarding "dead money", and Poloz was at pains to use his own experiences as a native of the car-making town of Oshawa to indicate that he understands how the global economic slowdown (and a strong exchange rate) have hammered Canada's manufacturing sector. (Illustration: in the city of St Catharines, just up the road from here, GM used to employ 15,000 skilled workers in its drivetrain plant. It now employs fewer than 2,000).
Perhaps most interestingly, Poloz seemed to acknowledge the need to choose his words carefully, because they can influence how people behave:
By explaining the cross-currents at work in our economy, our projections for what’s ahead, and our monetary policy response, we can help to heal business confidence. And in order to expand our understanding of what’s happening in the real economy, we listen to businesses, to labour groups and to industry associations.
Beneath our economic and financial statistics and analysis are real people, making real decisions. Those decisions are hard to make at any time, but when uncertainty is high and confidence low, they can be even more difficult.
I am optimistic that the signs are there that the process is under way. Right now, what we need most is stability and patience.
To help nurture confidence, an active engagement with Canadians must remain a cornerstone of the policy of the Bank of Canada.
Governor Carney often seemed close to anger at the unwillingness of companies to put their surplus cash to work. Poloz seems to be trying to show that he realises that it's hard for firms to be confident when policymakers are floundering. It's a good start. Now we await Carney's first broadside from his new perch in Threadneedle Street.
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