Forward guidance: special focus
Bank of England (BoE) governor Mark Carney on August 7 introduced a new era in UK monetary policy when he provided forward guidance for the first time on the future direction of interest rates.
'Forward guidance' is the new buzz phrase after the main European Central Bank (ECB) meetings in July.
Monetary policy normalization poses FX challengeThe Bank of England and the European Central Bank both sought to distance themselves from the hawkish bias emanating from the Fed. Unusually, both central banks issued forward guidance on interest rates in a bid to beat down expectations of monetary tightening in the UK and the eurozone.
Houston, we have a (communication) problemPolicymakers are concerned about the costs associated with quantitative easing, and wish to rely almost exclusively on forward rate guidance as the main policy tool.
Carney’s first move is likely to be to introduce forward guidance on interest rates, according to Azad Zangana, European economist at Schroders. The Bank of England has always been reluctant to give explicit signals on the path of monetary policy because it felt it might reduce the flexibility it has in changing policy on a monthly basis. On July 4, however, the BoE issued a statement which suggested that forward guidance could be adopted at its August meeting.
Forward guidance is the new watch word among central bankers and it was the BoE that was first off the mark under the stewardship of Canada’s Mark Carney, its new governor. The BoE surprised the market with an unexpected statement aimed at trying to turn the tide of rising market interest rates, saying the “implied rise in the expected future path of bank rate was not warranted”.
With the Fed effectively raising its forward guidance on rates, the rise in implied rate differentials between the US and other G10 countries should go in reverse.
German data give impetus to ECB rate cut – but beware simply selling the euroMark Wall, economist at Deutsche, believes that to maximize the potential from conventional monetary policy, the ECB might turn to forward guidance, a shift that would contradict its historic mantra of “no pre-commitment” on rate moves. “A virtual zero policy rate with forward guidance might be the most that conventional policy has to offer the ECB,” he adds.
The Fed's move to outcome-based forward guidance, and the use of the unemployment rate as a threshold indicator, shines a spotlight on the proper measure of unemployment.
"I wonder if he was really attempting to give something as sophisticated as forward guidance. Rather, it’s pretty obvious he wants to see the stockmarket rise further so he appears to be articulating an aspiration.”
Bank of England's Mervyn King steals Carney's thunder with focus on flexible inflation targetingThe Bank of England took a step closer in issuing explicit forward interest-rate guidance on Wednesday, a favoured call-to-arms of incoming governor Mark Carney
The push by incoming Bank of England governor Mark Carney for a flexible inflation-targeting regime and the promotion of forward rate-guidance, in particular, risks sowing the seeds of price instability.