It’s an irony of the financial world. The bigger the event, the less anyone cares. Because everyone sees it coming in advance.
Everything had already adjusted, the moves were priced in months ago, and all eyes are on the next big thing. Still, it was a symbolically momentous occasion on Thursday. The Bank of England (BoE) raised the interest rate for the first time in ten years.
Are congratulations in order?
Thousands of mortgage holders will see their mortgage bill rise for the first time. By around £22 a month according to the Guardian. That’s based on an average British mortgage of around £175,000. And it’s an 11% increase on the average rate of 2.25% before the change.
Doesn’t seem like much. But young buyers in London are about to get a fright in the mail given the average house price and mortgage there…
The BoE also removed suggestions that the rate hiking would continue at pace in coming months. The media interpreted this to mean there would be no more increases this year as originally expected.
The stockmarket was happy. The bond market didn’t panic. Job well done.
You’d think we’d be happier with our lot. Unemployment around the world is impressively low. Debt is at record affordability. Inflation is low. Stockmarkets are on the up. Stability everywhere is record breaking.
In fact, despite the fact that October is historically the most volatile month for American stockmarkets, the Chicago-based VIX index hit an all-time record low.
Why aren’t we celebrating? Why are we voting for the likes of Jeremy Corbyn, Donald Trump and Jacinda Ardern instead? More on that below. First, what should investors make of this new boringly wonderful world?
Without volatility, only policy making moves markets. Traders these days are eking out a living using facial recognition software to analyse central bank policymakers’ faces for clues. Nomura Securities and Microsoft are on to the Japanese Governor Haruhiko Kuroda:
Kuroda’s face shows signs of a policy change about six or seven weeks before the central bank’s board actually decided to adjust policy. […] at news conferences that preceded two recent major policy changes, Kuroda flashed brief signs of “anger” and “disgust”.
Wouldn’t analysing central bankers’ faces make a good newsletter? Perhaps not. Kuroda argued that attempts to analyse his face for an edge in trading markets would ultimately fail. He could just hide his facial expressions.
Central bankers are now poker players. They could be bluffing!
Currency bondage predicts a lower pound
The good news is that policy making is much more interesting these days than it was in the 1990s or early 2000s. The Financial Times took a good look at the two-year gilt in the wake of the BoE decision.
The British government bond anticipated the move higher in interest rates. It surged higher twice – in late June and early September. But the significance of the moves is nuanced.
During those surges, the two-year gilt popped above the former central bank policy rate of 0.25%. And that’s when the pound began to surge higher. The yield on the two-year is now back slightly below the BoE policy rate. That means the UK central bank is offering more than the UK government bond.
Why should you care? Because it suggests the bull run in the pound is at an end just when it was supposed to be starting. The currency had jumped over 5% against the US dollar since the end of August, while the bond yield outshone the policy rate, but then lost half those gains already.
Usually, interest rate increases encourage a currency’s rise. But it looks like the BoE undershot expectations for announcing future increases in rates. If the two-year gilt remains below 0.5%, be bearish on the pound. If the two-year yield surges once more, expect an interest rate increase and rising pound.
A central banking utopia leads to misery
Back to our central banking utopia. We’re in an oasis of economic and financial market calm and boredom. Especially if you compare it to our history.
In the 1970s, we had stagflation. High unemployment and high inflation. Bringing inflation under control generated even more unemployment and mortgages became unaffordable. The tech and housing bubble saw booms and busts that wreaked havoc with investments and unemployment.
Today we have the best of all worlds. A rising stockmarket, low inflation and low unemployment, to mention just a few. But if you read the media, it’s all a problem. Their new bogeyman: inflation is too low.
Inflation too low? It sounds like a great thing to me. Even low inflation’s detractors have trouble spelling out its faults:
“The most obvious danger of too-low inflation is the risk of slipping into outright deflation,” writes The Economist. So the problem with low inflation isn’t low inflation, but the potential for deflation. “Low inflation can be a signal of economic problems because it may be associated with weakness in the economy,” explains Econofact.
But it isn’t, because the economy is fine on other measures
Worst of all is The New York Times with its explanation for the benefit of higher inflation:
A little inflation can brighten the economic mood, causing wages and corporate profits to rise more quickly. Economists like to point out that this is an illusion. If everyone is making more money, then no one can buy more stuff. Prices just go up. But the evidence suggests people enjoy the illusion and, importantly, they respond to the illusion by behaving in ways that increase actual economic growth, for example by working harder.
Yes, inflation makes us happier, work harder and generate more profits for companies by being misled. It reminds me of “Arbeit macht frei”, Japanese workplace culture and Soviet five-year plans all rolled into one. If we start calling Mark Carney our Dear Leader, the central banking utopia will be complete.
The conceitedness of a high inflation target reaches its pinnacle when it fails. People work harder only to realise they’re on a hamster wheel of inflation. No wonder they’re grumpy. Companies and governments get the benefits of workers’ efforts through corporate profits and inflation.
Tax takes rise too
The only consolation of inflation is soaring house and stockmarket prices. But that mainly reaches the rich – inequality makes itself felt. When you’ve been misled into economic activity and investing by inflation, that means the gains aren’t real either. They disappear in a crash.
(I’m not sure why I’m explaining all this as a hypothetical given you experienced it these last few years.)
Once the failure strikes home, the proponents of centrally planned money don’t admit to the disastrous consequences of their plans. Instead, they have the infuriating audacity to blame the resultant disaster on capitalism, of all things. Precisely what their plans abandoned.
Enter New Zealand’s new Prime Minister Jacinda Ardern, the latest example of such nincompoopery. “Capitalism has failed New Zealanders” she told voters to get elected.
New Zealand was ironically the birthplace of inflation targeting – the modern form of monetary planning. They were at least honest enough to attempt 0% inflation in the original manifestation. But deflation was designated a bogey, so they gave themselves a margin of error and began to argue inflation is a good thing.
Employment targeting
Prime Minister Ardern of the Labour Party doesn’t just throw stones at capitalism. She has a radical solution too. Why not tack employment targeting on to the central bank’s mandate? Like everywhere else has done anyway, perhaps? In other words, the new five-year plan will solve our problems!
If you’ve ever read anything related to the Soviet Union, that’ll make you laugh. Especially because the Communists gradually had to abandon central planning in each consecutive five-year plan in an admission it doesn’t work. The Kiwis are doing the opposite!
It’s funny how long people can believe in such promises of planning, no matter the number of failures that pile up. Then again, a lot of non-believers had to get shipped to Siberia to keep morale high. I’m not sure where New Zealanders will be sent.
But it’s not like New Zealand is struggling. By almost any measure, capitalism and central banking have been an extraordinary success story in New Zealand. Unemployment is at a post-financial crisis low just when the prime minister wants to mandate its management by the Reserve Bank of New Zealand!
Isn’t it strange that at the moment of central banking’s greatest victory – the defeat of the greatest financial crisis since the Great Depression, the maintenance of an epic bull run in stocks and bonds, low commodity prices, low unemployment, cheap debt and low inflation – just at the moment we should be declaring our total devotion to our true world leaders, we are instead turning our anger against them in protest.
Perhaps because there is something inherently wrong with central banking, just like all forms of central planning.
Until next time,
Nick Hubble
Capital & Conflict
PS If you want to see my talk at this year’s Southbank Investment Research conference, you can get the whole thing on DVD at half price until 23:59 tonight. You’ll also get all the talks and Q&As from Daniel Hannan, Bill Bonner, Tim Price, Charlie Morris, Sam Volkering, Akhil Patel and Eoin Treacy, plus, backstage in-depth interviews. Click here to secure your half-price copy now.
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Category: Central Banks