[Global Focus] "The Era of Prolonged High Interest Rates Begins"... Global Monetary Policy Major Shift

Monetary Policy Seen Through the 'Interest Rate Super Week'
Last Week's Interest Rate Decisions by Central Banks of 11 Countries
Global Monetary Policy Cycle Turning Point
8 Countries Including the US and UK Hold Rates Steady, 'Prolonged Tightening'
70% of Central Banks Say "Rate Cuts in the Second Half of Next Year"

"The era of prolonged high interest rates (new regime) has begun."

This assessment emerged in the market after the "interest rate super week," during which more than half of the Group of Twenty (G20) countries announced their monetary policies between the 18th and 22nd of last month. Among the 11 countries that made monetary policy decisions, 7 kept their interest rates unchanged. Typically, when the tightening stance weakens, expectations for a soft landing of the economy and a pivot (direction change) increase, but the market focused on the "prolonged tightening." Due to stronger-than-expected economic performance, central banks worldwide are confirming the effects of past tightening and increasingly anticipating the possibility of a new normal of high interest rates with further hikes. The long-lasting ultra-low interest rate era (old regime), which was maintained to rescue the economy after the 2008 global financial crisis, is ending, and the high interest rate era (new regime) is expected to fully take hold.

Jerome Powell, Chairman of the U.S. Federal Reserve (Fed), is holding a press conference after concluding the Federal Open Market Committee (FOMC) regular meeting on the 14th (local time) in Washington, DC. [Image source=Yonhap News]

US Fed Signals ‘Prolonged Tightening’

When the US Federal Reserve (Fed) released its dot plot after the Federal Open Market Committee (FOMC) regular meeting on the 19th-20th, views predicting the arrival of a prolonged high interest rate era began to take shape. The dot plot raised the target interest rate for the end of next year to 5.1%, up 0.5 percentage points from the previous 4.6%. This indicates maintaining interest rates in the 5% range until the end of next year. Since the current benchmark rate is 5.25-5.5%, the timing for rate cuts is expected to be after the end of next year. On the 24th, immediately after the FOMC, UK market research firm Capital Economics surveyed 30 central banks worldwide about the timing of rate cuts, and 21 (70%) responded that they would begin cutting rates in the second half of next year.

The market is preparing for a more pessimistic scenario. Jennifer McKeown, Chief Economist at Capital Economics, said, "We are passing a significant 'milestone' in the global monetary policy cycle," adding, "The high interest rate environment will last longer than expected." Shima Sahar, Chief Global Strategist at global asset management firm Principal Asset Management, said, "The Fed sees US growth as stronger than expected, so it is uncertain whether it will pivot to rate cuts next year."

At the press conference immediately following the FOMC, Fed Chair Jerome Powell mentioned the market's assessment that the neutral rate estimate is rising, which is also seen as a clue indicating prolonged high interest rates. He said, "This (the rise in the neutral rate estimate) is why the US economy is resilient and not contracting." The neutral rate refers to an interest rate level that neither overheats nor cools the economy. If the neutral rate has risen, additional hikes may occur, or the timing of cuts may be delayed. The Wall Street Journal (WSJ) reported, "Some Fed officials believe that the rise in the neutral rate means the high interest rate environment will last longer and possibly forever."

Following the US, 8 Countries Including the UK ‘Hold’ or ‘Cut’ Rates Last Week

Following the US, the Bank of England (BOE) also surprised markets by holding rates steady and declaring a ‘prolonged tightening.’ The BOE has aggressively tightened by raising rates 14 consecutive times without a pause since December 2021, when the rate was 0.1%. This time, a 0.25 percentage point rate hike was widely expected. However, the mood reversed just one day after inflation hit its lowest level in 18 months the day before the meeting.

Andrew Bailey, Governor of the BOE, said after the monetary policy meeting, "We will closely monitor whether further hikes are necessary." However, the market expects the current rate level in the 5% range to be maintained for a long time instead of additional hikes. Yael Selfin, Senior Economist at KPMG, predicted, "Rate cuts are unlikely to begin until November next year."

The European Central Bank (ECB), which set rates a week earlier, raised rates by 0.25 percentage points but signaled it would maintain a hold going forward. Philip Lane, Chief Economist at the ECB, said, "Current rates are on a path to beat inflation," indicating a rate hold.

Additionally, Taiwan kept its benchmark rate at 1.875%. Taiwan ended five rate hikes by March this year. Taiwan’s consumer price index (CPI) is expected to decline from 2.24% to 2.22% this year and further to 2% next year. The Swiss National Bank (SNB) chose to hold rates at 1.75%, stating, "It is time to verify whether the monetary policy measures taken so far are sufficient for price stability."

Richard Clarida, former Fed Vice Chair and head of bonds at PIMCO, the world’s largest bond manager, noted, "Central banks keeping rates at current levels can be interpreted as a willingness to prepare for inflation that could flare up again at any time, despite a temporarily subdued inflation war."

‘Recession in China’ and ‘Weak Yen in Japan’ Maintain Rates

China, which is still in an economic contraction phase, kept rates unchanged for reasons different from the US and Europe. The People’s Bank of China maintained the loan prime rate (LPR), the benchmark rate, at 3.45% for one-year loans and 4.20% for five-year loans on the 20th. The PBOC had cut the LPR by 0.1 percentage points in June and August to stimulate the economy.

The market expects additional LPR cuts within the year, considering the long-term recession outlook due to the bursting of the real estate bubble. Wang Qing, Chief Analyst at Chinese credit rating agency Dongfang Jincheng, mentioned that "low inflation is a favorable condition for rate cuts," referring to the possibility of future rate reductions. Nomura Securities analyzed, "Even with rate cuts, Japan continues to experience a ‘balance sheet recession’ where households and companies focus solely on reducing debt rather than investing or consuming," and "the real economy may continue to stagnate despite low rates."

Japan, which has maintained negative interest rates for over seven years, kept the short-term rate at -0.1% and maintained its existing policy of guiding the 10-year government bond yield, a long-term rate indicator, at 0%. This ultra-loose monetary policy has led to a record weak yen, but due to significant inflation uncertainty, the Bank of Japan (BOJ) Governor Kazuo Ueda, like Chair Powell, emphasized a data-driven approach. The WSJ predicted, "As prolonged US tightening increases pressure on the yen’s weakness, Japan is likely to abandon negative rates or remove the 1% cap on 10-year government bond yields by the end of this year or early next year."

Emerging Markets Outpace the US... End Tightening and Shift to Easing Mode

Emerging markets, which had entered extreme tightening mode due to soaring inflation, began cutting rates earlier than the US. Brazil’s central bank, the largest in South America, cut its benchmark Selic rate by 0.50 percentage points from 13.25% to 12.75% on the 20th. It projected the Selic rate to be 11.75% by the end of this year, suggesting several more rate cuts ahead. Brazil had rapidly raised rates for a year and a half since March 2021 to curb inflation and shifted to rate cuts last month. Brazil’s August CPI was 4.61%, aligning with the central bank’s target range (1.75-4.75%) for six consecutive months.