Published March 17, 2013
LONDON – The Bank of Japan welcomes a new anti-deflation governor this week, the Bank of England might get a new pro-growth mandate and the Federal Reserve is likely to stick like glue to its aggressive bond-buying program.
Together, the three events speak volumes about the balance of risks in a global economy that is on the mend but still a long way from rude health.
Unemployment is intolerably high in the United States and most of Europe, while growth in many countries is well below its pre-crisis trend. As a result, inflation is firmly subdued.
Add to that the inability of many heavily indebted countries to cope with higher borrowing costs, and it is no wonder that central banks will do whatever is needed to keep a lid on bond yields, said Joachim Fels, chief international economist at Morgan Stanley in London.
"Despite the uptick in growth that we see, we don't think central banks are done easing yet," Fels said. "The fears that we get an early exit from quantitative easing and negative real interest rate policies are unfounded, at least for this year."
Supportive monetary policy is a big reason why Fels expects the global economy to emerge from the twilight as 2013 unfolds.
"We're still talking about sub-trend GDP growth this quarter and next. But in the second half of this year, we think we will move into daylight," he said.
THE BOJ BECOMES RELEVANT AGAIN
For once, the Bank of Japan will be an important driver of this global reflation if Haruhiko Kuroda, who takes over at the helm of the central bank on Wednesday, makes good on his pledge to stop Japan's long deflationary rot.
Other central banks will feel the need to remain expansionary if their currencies rise due to yen weakness triggered by bold BOJ easing, Fels said.
Even the European Central Bank could come under a bit of pressure to do more, added Daniel McCormack, a strategist with Macquarie in London.
"Even though expectations are high for some pretty aggressive action from the BOJ, when it does happen and you can hold and see it and it's real, the market will still react positively," he said.
Regime change of sorts is also in the air at the Bank of England.
Chancellor of the Exchequer George Osborne, Britain's finance minister, is expected to announce a review of the BoE's inflation-focused remit, or possibly outright changes to it, when he presents his annual budget on Wednesday.
With little room to change taxes or spending because of his determination to stick to austerity, Osborne might give more room for the central bank to loosen monetary policy further.
That would smooth the path for the arrival of Mark Carney, the current Bank of Canada chief, who takes over from Mervyn King as BoE governor in July. Indeed, McCormack suspects Osborne and Carney have struck a deal on the course of action to take.
"When Carney comes on board you can kind of expect some razzle dazzle in terms of monetary policy," he said. "His legacy will be judged by whether he turns the UK economy around in his five-year tenure. So he's going to give it everything he's got."
With the United States, China and possibly Germany gaining economic momentum, and central banks pushing the accelerator firmly to the floor, equity markets should be in a sweet spot for the rest of the year, McCormack added.
NO CHANGE AT THE FED
Minutes from the Bank of England's March meeting, also due on Wednesday, will show whether the bank is inching closer to easing even before Carney takes over. Three of its nine-member policy-making panel, including King, had already voted for additional bond-buying stimulus in February.
Rounding out Central Bank Wednesday is the Federal Reserve, which looks set to end a two-day policy meeting by agreeing to keep buying $85 billion a month in mortgage and Treasury bonds in an effort to encourage investment and bolster confidence in the economic recovery.
The policy is broadly working. The economy has shown such resilience in the face of higher taxes, gasoline prices and prospective federal spending cuts that some banks have marked up their forecasts for GDP growth this quarter by a full percentage point to an annual pace of 2.5 percent or more.
Figures this week on housing starts, building permits and existing home sales are likely to confirm housing as an important driver of the recovery.
Indeed, the Fed is likely to present a brighter outlook for both growth and unemployment in updated forecasts to be released with the outcome of the Fed's policy deliberations.
Ward McCarthy, chief financial economist with Jefferies in New York, said he expected Fed Chairman Ben Bernanke to reflect the more optimistic tone when he briefs the media.
"But I don't think he will be sufficiently upbeat that he will be suggesting in any way that the Fed is going to alter its policy intentions any time soon," McCarthy said.
In addition to the U.S. housing figures, preliminary polls of purchasing managers from China and the euro zone top the week's data slate alongside the monthly sentiment survey by Germany's IFO economic research institute.
According to a Reuters poll of economists, the index derived from the euro zone survey is likely to have edged up this month from 47.9 to 48.2, still below the 50 threshold denoting expansion.
Uncertainty cast by Italy's deadlocked elections and the unprecedented decision by euro zone finance ministers on Saturday to tax bank depositors in Cyprus to help pay for a bailout are among the many threats to still-fragile confidence in the single currency.
But Morgan Stanley's Fels believes Europe, too, will eventually emerge from the twilight zone. "We think the recession will die of old age at some stage this year," he said.
(Editing by John Stonestreet)