Following the Fed goes out of style in the global economy “Messier”

(Bloomberg) – The world’s most aggressive and synchronized monetary policy tightening in 40 years is entering a new phase as central banks prepare to slow the pace of interest rate hikes and break ranks on the distance to be covered.

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The shift to a softer and less uniform rate hike campaign partly reflects growing disparities in a global economy still grappling with the aftermath of the pandemic and Russia’s invasion of Ukraine. Another explanation is that the debt burden makes some economies more susceptible than others to a credit crunch.

U.S. growth remains resilient for now in the face of repeated rate hikes by the Federal Reserve, which signaled last week that it would likely raise rates to a higher high than expected, but perhaps at lower increments. . Many on Wall Street see the US policy rate going above 5% next year.

By contrast, the UK, Australia and Canada are already retreating or signaling they won’t be as impactful in the coming months, fearing the Fed could push their economies into recessions.

Moving away from what TS Lombard economist Dario Perkins calls “peak monetary synchronization” will not be without problems.

The Fed-induced surge in the dollar this year is already wreaking havoc among heavily indebted developing nations and advanced nations that depend on energy and other imports priced in US dollars.

“Things could get even more complicated” if U.S. policymakers pursue further rate hikes and central bankers in weaker economies decide not to match them, Perkins wrote in a report to clients last week.

The developing divergence was fully visible last week. While the Fed and the Bank of England have raised interest rates by 75 basis points, their respective leaders have taken different tones on what lies ahead.

Fed Chairman Jerome Powell stressed that the central bank had “some way to go” before it finished raising rates even as it opened the door to a lower increase in December. The US benchmark is now 3.75% to 4%.

Bank of England Governor Andrew Bailey pushed back on market expectations about the scale of future increases, fearing such a trajectory could deepen a virtually guaranteed recession.

The dollar initially rose after Powell’s remarks while the pound fell after Bailey’s.

Bond markets have been rocked over the past six months as investors, buoyed by hopes that a Fed pivot would lead to an easier international political landscape, have suffered a series of disappointments.

That sent the Bloomberg Global Bond Index to an unprecedented loss of around 20% year-to-date.

For much of the past year, central banks have engaged in what the Bank of America Corp economist said. Ethan Harris called it “a contest to see who can grow the fastest”.

This made sense given that inflation had caught them off guard by hitting decade highs with historically low rates.

But now the picture is changing even with inflation still well above target in most places.

Borrowing costs are significantly higher and are starting to eat away at growth or labor markets.

Some economies are also more sensitive than others to rising rates due to household and corporate debt or housing markets being stretched or boosted by variable rate mortgages. Among them, according to Perkins: the United Kingdom, Canada, Australia, New Zealand and Norway.

“These economies will suffer a recession long before the Fed causes a US economic slowdown,” he said.

It should therefore come as no surprise that monetary policymakers in some of these countries have already halted or reduced the magnitude of their rate moves.

A general decline in aggressiveness always signals “the end of the beginning” of the rate hike campaign, according to Gilles Moec, chief economist at AXA SA.

An index from Credit Suisse Group AG shows that dovish central bank surprises have recently started to outnumber hawkish ones.

But hawks say that despite all the talk of pivots, the peak in global rates has yet to be reached and may not be until the end of the first quarter of next year or even longer if the inflation does not fade.

Bloomberg Economics sees its global key rate hitting 5.5% by the middle of next year, up from 2.9% at the end of 2021. In advanced economies alone, a jump to 3.5% from 0.1% is expected.

Like the Fed, the European Central Bank could stay ahead of the curve with inflation north of 10%. “Our job is far from done,” Chairman Christine Lagarde said last week, noting that rates will need to enter restrictive territory to bring prices down.

Headline global inflation stands at 9%, nearly five times the 2% that most central banks consider price stability, according to Citigroup Inc. economists, who see a 50% chance of a global recession next year.

Markets are now betting on a slower pace of tightening, but a higher endpoint. The average cash rate in advanced economies jumped almost 2 percentage points in 2022 and investors see that average climbing by about another percentage point in the coming months.

The Fed’s benchmark index a year from now is expected to be 2.5 percentage points above the average of other major advanced economies, the widest deviation since at least 2004. That premium is part of the reason why the ICE dollar index has soared this year to head for a record annual gain

“The Fed continues to promise more and the dollar continues to rise,” said Harris, head of global economic research for Bank of America.

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