Central bankers spark sentiment shift

Central banks don their capes

At home and abroad, for financial markets it was a matter of central bankers to the rescue in the past 24 hours. The RBA cut interest rates, as is well known to any Australian right now. But the key driver to market action overnight, which saw sentiment shift-markedly, even if only in the short-term, was a very “dovish” speech from US Fed Chair Jerome Powell. The headline that spurred traders animal spirits was roughly this: the Fed remains on standby, and is willing to slice interest rates, in the event the trade-war causes a material impact on US (and therefore global) economic growth.

Fed flags rate cuts if necessary

The message delivered by Powell, during a speech at an event hosted by the Federal Reserve Bank of Chicago, gave the lift to risk-assets that market-bulls had been craving for some while. Last night, the narrative being belted out is that the S&P500 experienced its best day’s trade in 5 months. That index rallied by 2.1 per cent, as traders increased their bets of a rate cut from the US Fed before year end. Somewhat counterintuitively, US Treasury yields claimed on the news, but the US Dollar fell – seemingly as traders priced-in the positive long-term effects of near-term cut in interest rates.

US tech retraces losses – and leads market gains

The rally in US equities was led by a big climb in the information technology sector, which unwound the lion’s share of the losses it sustained in the day prior’s session on news the US government may be beginning anti-trust investigations into the country’s major technology giants. A testament to the power of the Fed and monetary policy for equity markets: traders opted to shake-off the potential break-up of US-tech-behemoths, and what is essentially a big fundamental risk for those firms, and instead chase growth and risk on the basis that the Fed could step in to support the market with looser financial conditions.

It all centres on central banks

It speaks of quite a core concern for global markets and economic policymakers: how much can, and should, a central bank do to ensure economic growth? Of less moral, and more practical, concern: how successful are central banks achieving such an outcome at all? It seems to be a detail that gets lost in the minutiae nowadays, following years of over-reliance on these institutions, that central bankers’ core mandate isn’t to be capitalism’s central planners. Nevertheless, markets and pundits hang on their every single word and action, and act according to their decrees, holding onto the hope they have the remedy for every ailment.

The RBA does its bit, remains hopeful

This point is of relevance now because, of course, the RBA cut interest rates yesterday, themselves. Interest rates now sit at a new record low of 1.25 per cent – and expectations are that they’ll be reduced even further in the months, and possibly years, to come. While maintaining a general upbeat tone in their press-statement yesterday, the Reserve Bank board’s rationale for the decision is that looser monetary policy is required in order to soak up the stubborn spare capacity in the labour market. This, they suggest, will help create the necessary wages growth to support households, lift inflation, and ensure economic growth overtime.

Dr. Lowe gives his prognosis

There is nuance in the RBA’s position though, and that was somewhat fleshed-out by a speech delivered by RBA Governor Philip Lowe overnight. His point, in short, is that the RBA (and presumably, by extension, central banks in general) can’t do it all. The Governor pointed out that monetary policy “is not the only option” to support the economy, pointing to the benefits of “structural” and fiscal policy measures to ensure ongoing prosperity. There seems a clear-enough message here: that while helpful to support employment and ensure price stability, the RBA, or any central bank, can’t be held responsible for the absolute welfare of a whole economy.

Shift in market sentiment questionable

Granted, that choice is perhaps a luxury the Australian economy has over other developed economies around the world: we never experienced the fiscal breakdown after the GFC that befell other major, global economies, and forced their overreliance on monetary policy as the primary tool for economic management. Regardless, it remains an important point, and pertinent risk, especially given last night’s little change in market sentiment. Stock markets have spiked on the basis that the Fed has suggested it will combat a trade-war induced economic slow-down. Though there is sense behind the move, it begs the question of how achievable and sustainable that dynamic happens to be.