Global market outlook: Time to take away the punch bowl

20 December 2018 | Markets and Economy


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Peter Westaway, chief economist and head of investment strategy, Vanguard Europe

Leo Schulz (moderator): Monetary policy has been broadly stimulative over the past 10 years. Is that about to change? My name is Leo Schulz and I have with me Dr Peter Westaway, chief economist, and head of investment strategy at Vanguard Europe.

Peter, I believe that a previous chair of the Federal Reserve once said that the job of a central bank is to take away the punch bowl just as the party is getting started.

Peter Westaway (chief economist and head of investment strategy, Vanguard Europe):

Yes, it was William McChesney Martin who said that back in 1955, and I think it is true, that is pretty much what the Fed is doing at the moment. They have been raising interest rates in earnest since 2016 and we’re expecting them to reach their peak level of interest rates for this cycle in the summer of 2019, and they will get to something like 2.75-3%.

Leo Schulz: So a rising cycle in the U.S. What about outside the U.S., Peter?

Peter Westaway: So outside the U.S., like the business cycle itself, interest rates are rather further behind, so in Europe, the ECB are not expected to raise interest rates until 2019. In Japan, interest rates are likely to be on hold for pretty much the foreseeable future. So looking further afield at emerging markets, they are more constrained to move interest rates alongside the Fed, so they are likely to be raising interest rates. And then the only country that is really not going to be raising rates is in China, where they tend to rely on other policy instruments like capital controls and having a slightly weaker exchange rate.

Leo Schulz: What about the U.K., Peter? We’re in something of a special situation, aren’t we?

Peter Westaway: Yes, it is difficult to make strong predictions about the U.K. because it really all depends on what happens with Brexit.

Leo Schulz: Peter, quantitative easing has been an important part of the whole loosening policy. Are we now going to start seeing quantitative tightening?

Peter Westaway: Yes, we are, but the way that that plays out is much more uncertain, so we know that the Fed have already started selling the bonds that they previously bought back into the market, although that is very gradual so far. The ECB stopped buying government bonds at the end of 2018, but there are no plans yet for them to start quantitative tightening, and similarly, the Bank of Japan are still in the process of doing quantitative easing and no plans for them to unwind yet.  

Leo Schulz: So are we seeing an era approaching now of normalisation in interest rates?

Peter Westaway: We are, but it is a very slow process. So if we think about the U.S., which is likely to go back to a level of around 3% at the peak of the cycle, that is a very different number compared to the sorts of 5% levels that we were experiencing back before the financial crisis, and I think that is going to be generally true around the world. We’re going to settle down at lower levels of interest rates than we used to.

Leo Schulz: Peter, thank you.

Policy tightening is underway, but it is a slow process, and we should not expect to see a return to high levels of interest rates any time soon.

Thank you for watching.

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