Reflecting improvements in the global economy, major advanced economy (AE) stock markets have been trending up and movement towards possible tax cuts in the US – including corporate tax cuts – may have given markets some additional impetus, explains the research team at NAB.
“Despite continuing geo-political risks, such as North Korea/US tensions and recent unrest in the Catalonia region in Spain, market risk measures such as the VIX and credit spreads remain subdued. Commodity prices, after falling through the first half of 2017, have broadly tracked sideways.”
“Around mid-year there was a general shift in advanced economy central bank rhetoric away from further easing to questioning when to tighten, which has lifted long-term bond yields.”
“The US Fed has been raising rates for a while and announced a process of unwinding its large balance sheet last month. The Bank of Canada has raised interest rates twice this year. The ECB is expected to announce a slow down in the pace of asset purchases at its meeting this month, and the Bank of England is signalling that a rate rise may not be far away. The Bank of Japan is the main exception as, despite its politically unpopular monetary easing measures, inflation remains well below target and so policy looks likely to be on hold for an extended time.”
“It may appear surprising that central banks are looking to tighten in an environment where inflation generally remains below target (with the exception of the UK). However, aggregate core inflation in major economies is not exceptionally low – it is near the bottom of the typical range since the late 1990s. Moreover, monetary policy is also set with a view as to how the real economy is performing and the aggregate unemployment rate is essentially back to its pre-GFC level. Some central bankers see the lower unemployment rate as signalling inflationary pressures down the track.”
“Against this backdrop, central banks see less need for exceptionally low policy rate settings. In the case of the ECB and the UK (which cut rates after the Brexit vote) the change in outlook is also about removing some of the ‘emergency’ monetary stimulus that has been put in place rather than signalling an ongoing series of rate increases. Consistent with this, and still subdued inflation, markets are pricing in only very gradual rate rises which would still see rates remain low by historical standards.”
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