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It is the new way of doing central banking. It is called forward guidance. It means that central bankers are telling us what they are going to do in the future under different circumstances. In one fell swoop they have done away with an industry; an industry called predicting interest rates. It has become a game, and in some cases a business. The media fill their pages with predictions on which way interest rates are going next. Now we know, if the data says one thing, rates will go in a certain direction. Yet here we are, just a few weeks into the era of forward guidance, and already cracks are appearing. As for the markets, rather than becoming more stable and predictable, they have become more nervous than ever.

“I guess I should warn you, if I turn out to be particularly clear, you’ve probably misunderstood what I’ve said,” or so once and somewhat famously said the former Chairman of the US Federal Reserve Alan Greenspan. This was the era when Mr Greenspan was set on a pedestal so high that it is a wonder he didn’t need an oxygen mask and climbing ropes. What the markets really loved was the way in which Mr Greenspan had a veneer of knowing something they didn’t know; of having a plan – a cunning plan if you will – that always worked the way it was supposed to.

The finance crisis of 2008, and the fact that we appeared to miss a meltdown in capitalism by a whisker did leave Mr Greenspan’s reputation a little in tatters. Ben Bernanke, his replacement at the Fed, made a great play of saying what he thought; of letting us in, as it were, on his rationale. At first it didn’t go down well. The markets concluded he didn’t really seem to know what he was doing. It is the tragedy of the modern age. All of us stumble around in the dark most of the time, but we just don’t like to admit to it. And when our leaders admit to it, we think they are weak and uncertain.

These days, however, Ben’s stock is high. It was he, first among the central bankers, who came up with the idea of forward guidance, when he revealed that the Fed would keep pumping money into the economy via QE for as long as unemployment remained high. Now they are all at it. The Bank of England – under the leadership of Mark Carney – is now saying that rates will stay at half a per cent as long as unemployment is over 7 per cent.

It is just that the minutes from the latest Bank of England Monetary Policy Committee (MPC) meeting revealed that one member of the committee – Martin Weale – voted against the policy. It was not so much the idea of forward guidance he was against, it was the perceived timing. He appeared to fear that the 7 per cent target was too loose. Er, or maybe you could say that actually he was against forward guidance, because he wants a policy that one might describe as always flexible.

His dissent is important, because it rather put a question mark over the viability of the policy. You can interpret the Bank of England as saying if the economy does this, we will definitely do that, unless, that is, we change our mind. There are also hints that UK unemployment is set to fall much more rapidly than has been assumed. A survey from the CIPD and the latest Purchasing Managers’ Index both point to positive changes in UK unemployment in the pipeline. See: The UK jobs market boost . This has led to speculation that rates might be rising much sooner than the Bank of England has been suggesting.

It appears that the industry that grew up predicting what the MPC might do next has changed into one predicting what unemployment will do. If nothing else, jobs have become a more important economic indicator – and maybe that is no bad thing; after all common sense suggests it should be the most important indicator.

In the US, recent data has pointed to a sharp improvement in the jobs outlook, with the latest survey suggesting US unemployment is now at its lowest level since October 2007.

So let’s review the situation. The signs, both in the form of hard data and from surveys, point to a labour market that is improving faster than many had dared to hope for. That means monetary policy might be tightened faster than many had feared. The markets are spooked by it all. ‘Better than they dared hope for’ jobs data turned out to be less of a boon than ‘rates rising faster than they had feared’, – at least that is what they are saying at the moment.

But then the markets are fickle and how they react one day can be quite different on another. If you think the markets are making themselves clear, it probably means you “misunderstood what they are saying”.

© Investment & Business News 2013

Comments
  1. I sincerely hope that the days of Greenspan and his acolytes, such as Gordon Brown, are gone; but the big worry is that the new people will set their sights on one particular marker, employment, whether in or out of. This does not show the state of play properly; it is a soft target open to misinterpretation. A countries economy is not on the rise when new employment is low paid, seasonal, short term and without formal contract. As before it will be used to talk up a dying economy devised by corrupt and inefficient capitalism doctorate Unfettered Capitalism which only cares about the bottom line profit for the few. Unfettered Capitalism like most Communist dogma has failed the vast majority of the planets people because it is too prone to corrupt practice & so called Democracy. On that terrible day the planes were flown into the towers they did it for the wrong reason in the wrong place killing innocent people; it should have been wherever it is that the Bilderberg group meets in secret with armed police; even then they would have missed the real criminals I bet.

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