Global rate cuts mark broadest policy shift since crisis, says Fitch

A flurry of interest rate cuts by the US Federal Reserve and a host of other central banks marks the broadest shift in global monetary policy since the depths of the financial crisis in 2009, analysts at Fitch Ratings said in a report.

Led by the Fed’s policy pivot, which took rate hikes off the table in December and then cut borrowing costs last month, Fitch said its geographic “diffusion index” of central bank policy plummeted from a strong bias towards tightening to what is now a marked tendency toward easing, or cutting rates.

It’s the type of coordinated change that characterised how central banks responded to the financial crisis with across-the-board rate cuts, dollar swap lines extended by the US central bank to other countries, and a series of other exceptional steps to keep the world economy afloat.

Macroeconomic conditions are nowhere near as bad now, Fitch analysts said in an interview, and the policy shift in the last few months has been much less extensive.

But the geographic spread of actions, from the central banking capitals of Washington and Frankfurt, to financial centers like London, and a host of emerging markets, shows how the world’s central banks have become more closely tethered to one another, with the Fed as the dominant player. “In terms of how swift the change has been, it is quite striking,” said Brian Coulton, chief economist for Fitch Ratings. The Fed and 19 other central banks have cut rates in recent months.

Coulton said they were responding both to the Fed’s policy change - evidence that the broad use of the dollar in world trade and corporate finance had linked the world economy ever closer to what happens in Washington - and the sense of growing risk from the US-China trade war.

The trade battle “affects the two biggest economies in the world.

That is a risk every central bank will have to take into account. That is a common shock,” he said. But he feels the shift runs deeper. Emerging market economies, where monetary policy had more closely tracked commodity prices and resulting inflation, now seemed tied instead to the Fed, he said. That could, the Fitch analysis concluded, be one of the “profound” consequences of a decade of cheap money and Fed “quantitative easing” that allowed countries and overseas companies to borrow more in dollars, only to face refinancing risks and other stresses when the Fed began raising rates.

When the US central bank reversed course “the pressure that had been placed on other central banks was released,” Coulton said. The Fitch diffusion index rates the stance of global central bank policy, treating each bank as equal.

A rating above 50 indicates a bias towards raising rates, while below 50 indicates looser policy. As of December, the index stood at 75.

One Federal Reserve policymaker who opposed the Fed’s recent rate cut is considering whether to support such a move now given risks that a US-China trade war and global slowdown could derail the economy.

“I could see scenarios where we hold rates steady. I could see scenarios where we move the rate down. I think we just have to take the time to really evaluate,” the state of the economy, Cleveland Fed President Loretta Mester told Reuters in her first public remarks since the Fed last month lowered borrowing costs for the first time since 2008.

Mester said she still forecasts the US economy to grow in line with its long-run potential this year, with inflation rising to the Fed’s 2 per cent-a-year goal, but risks to that outlook are serious and “weighted to the downside.”

Still, fairly strong economic data, particularly on the labour market and inflation, led Mester to not support what she said was the “close-call” decision to cut rates despite signs of weaker business spending and signs of a manufacturing slowdown.

“A strategy of holding the rate constant would have been my preferred strategy at that point, but it’s a close call,” she said. “Holding pat, depending on where the economy is, could actually be tighter policy.”

Fed policymakers face a conundrum setting rates in a consumption-driven economy where most signs point to rising wages and low unemployment. Yet trade tensions threaten to undermine how people feel, and therefore how much they spend, as well as hitting global manufacturers and markets.

Global central banks have decisively switched into easing mode. Analysts at Fitch Ratings said in a report on Friday that rate cuts by the Fed and 19 other central banks in recent months marks the broadest shift in global monetary policy since the depths of the financial crisis in 2009.

Markets swung this week on growing recession fears. Investors widely expect the Fed will cut rates when it meets September 17-18.

Reuters