Will the FED soon follow other central banks in rate cuts?

>> Will the FED cut rates in September?

It is not hard to see why the market has felt that the Fed will be more cautious with its rate cuts than other major central banks like the ECB and Bank of England. The US economy has been more robust than others, seemingly suggesting that high rates have not bitten as hard in the US as they have elsewhere.

On top of this, we’ve already seen the ECB cut rates with the first reduction made back in June. In the immediate wake of that rate cut the financial markets were pricing in a very similar degree of easing this year for the Fed, ECB and BoE of just over 40 basis points. The similarity in rate-cut expectations persisted through to around two weeks ago when a number of events happened that started to create a gap.

For right now, the market sees around 65-bps of Fed rate cuts between today and the December FOMC meeting. while the ECB and BoE are seen trimming rates a more modest 45 to 50-bps between now and their meetings in December. Admittedly this gap is not very big, at least not yet, but it is notable, and one that could lower the dollar, and lower US yields relative to the EGBs and gilts.

What has changed in recent weeks? Many would point to the low US CPI print for June; the third in a row, which breathed new life into the idea that the Fed could start its rate cuts in September. Subsequent comments from Fed members about both the good inflation news and labour market softening have fed this narrative and now the market seems all-in on a September 18^th rate cut. Indeed, there’s even some talk that the Fed could cut earlier, at the July 31^st meeting.

However, the adjustment in relative rate expectations between the Fed on one side and the ECB/BoE on the other has not all come from the US side. The ECB has seen its June rate cut questioned given the release of subsequent data that arguably disputed the wisdom of the 25-bps cut. Wage data, for instance, has remained very elevated while the fall in inflation has stalled. And such has been the concern within the ECB that many of its members seem to have pushed the leadership into eschewing the prior practice of lining the market up in advance for future rate cuts.

Now clearly, none of this means that rate cuts are off the table, but market expectations have become more cautious about rate cuts and probably need some good data to shift these expectations back again to fully discount two more rate cuts in 2024.

>> FED and ECB’s monetary policy has shifted a lot

In the UK, economic data has not quite played ball when it has come to justifying rate cuts. The economy has been a bit firmer, inflation data has continued to show an unwelcome stickiness in services inflation and the MPCs expert on the labour market, Jonathan Haskel is warning that wage data seems to be taking the UK away from a rate cut, not towards it. But here too, like the ECB, it still seems very likely that rate cuts are coming. Whether the BoE and ECB prove more aggressive than the Fed with rate cuts might still be what matters here and not whether the ECB and BoE cut rates or not.

Another point is that the other North American central bank, the Bank of Canada looks as if it could produce a follow-up rate cut on Wednesday. For while the ECB has been reticent to move at each meeting, developments in Canada seem to be pushing the BoC in this direction. Now, of course, Canada is not the US. There are differences in the current situation but there are also some notable similarities as well, like surging migration. It could mean that there is a North American bias to ease a little faster or more aggressively than the market has been assuming relative to Europe which could go a little slower.

In the end, these differences may only be marginal but they could still have relative effects, such as weakening the US dollar relative to European currencies some more and helping treasuries to, temporarily at least, outperform EGBs and gilts.