Latest / Markets with Megan: A Quick Financial Markets Update / Will the Fed Follow ECB's Lead on Rate Cuts? | Episode 141 | 06-06-24

Transcript

Will the Fed Follow ECB's Lead on Rate Cuts? | Episode 141 | 06-06-24 · Markets with Megan: A Quick Financial Markets Update

• 0:01
  Megan Horneman: The question today becomes is the clock ticking for the Federal Reserve?
• 0:04
  Megan Horneman: This is your regular segment of Markets with Megan.
• 0:06
  Megan Horneman: It's Thursday, june 6th and, as expected, this morning we got the rate cut from the European Central Bank, following the Bank of Canada, which was the first major G7 country to actually cut interest rates.
• 0:19
  Megan Horneman: But the ECB's rate cut was expected.
• 0:22
  Megan Horneman: It wasn't a surprise and I just want to explain why they have done it, what it means for the Fed and does it mean that the Fed now is the clock is ticking for the Fed and there is some sense of urgency for them to move.
• 0:34
  Megan Horneman: So, first of all, keep in mind the ECB and the Federal Reserve have two different mandates.
• 0:38
  Megan Horneman: The ECB's mandate is to have price stability, so control inflation.
• 0:44
  Megan Horneman: But the Federal Reserve has to control inflation while having maximum employment.
• 0:49
  Megan Horneman: So they have two different sides from their mandate.
• 0:51
  Megan Horneman: What we've seen in the European region is that inflation has come down.
• 0:56
  Megan Horneman: It's come down substantially.
• 0:58
  Megan Horneman: We've seen some sticky prints in the past month or so.
• 1:02
  Megan Horneman: So there was one central bank governor who actually disagreed with the decision, but they did decide to cut interest rates.
• 1:09
  Megan Horneman: The European Central Bank also, keep in mind, is in charge of many different countries, not just like the US.
• 1:16
  Megan Horneman: It's one currency, one country.
• 1:19
  Megan Horneman: They have 20 different countries that they have to set monetary policy for, so their economic environments can be very different.
• 1:25
  Megan Horneman: There may be economies that are really struggling.
• 1:27
  Megan Horneman: There may be the economies that are doing a bit better.
• 1:29
  Megan Horneman: So they have to kind of toe a very fine line here when they're setting monetary policy.
• 1:34
  Megan Horneman: The one thing when it comes to inflation, the European Eurozone inflation has come from 10.6% and this is at the headline level all the way down to 2.6%.
• 1:47
  Megan Horneman: So it's fallen from a much higher level and fallen more than we've seen here in the US.
• 1:52
  Megan Horneman: If you look at the peak in our headline inflation at 9.1%, we've come down to 3.4%.
• 1:59
  Megan Horneman: That's just looking at numbers.
• 2:00
  Megan Horneman: So they've seen a very big improvement in their inflation picture.
• 2:06
  Megan Horneman: But what they did today and why you're seeing bond markets sell off on this is that they delivered this rate cut with what's considered a hawkish tone, and we have often said that sometimes the comments that come out of these meetings are equally as important as the actual action itself.
• 2:22
  Megan Horneman: And what Christine Lagarde did was she made the comment that they still are promoting restrictive policy.
• 2:29
  Megan Horneman: This is basically fine tuning.
• 2:31
  Megan Horneman: They do believe that inflation has come down enough so that they can modestly reduce interest rates.
• 2:37
  Megan Horneman: They made no commitment whatsoever to this being a start of a cycle or them cutting interest rates again in July or September.
• 2:45
  Megan Horneman: So the markets from a bond market perspective, we've seen yields rise and prices decline across the globe, with those hawkish comments.
• 2:54
  Megan Horneman: Now, what does this mean for the Fed?
• 2:55
  Megan Horneman: The Fed can still be, we think, flexible.
• 2:59
  Megan Horneman: We don't think that this puts them on any timeline.
• 3:02
  Megan Horneman: Remember that the European Central Bank is also not too far out of a negative interest rate policy that they struggled with for many, many years leading up to the pandemic.
• 3:12
  Megan Horneman: This may simply be the fact that it's too fresh in their minds and they want to err on the side of caution and not get back to a deflation, disinflation type of environment where they may have to cut interest rates back to zero.
• 3:23
  Megan Horneman: So they'll let economic growth run a little bit, they'll let inflation stay a little bit higher.
• 3:28
  Megan Horneman: They actually even increased their inflation expectations for this year, in 2025.
• 3:33
  Megan Horneman: So they don't necessarily think that inflation has improved and they're entering this major deflation or disinflationary environment, but they just want to make sure they don't have to get back there.
• 3:45
  Megan Horneman: So we can consider that to be maybe one of the incentives with the European Central Bank as well.
• 3:50
  Megan Horneman: So I apologize.
• 3:52
  Megan Horneman: Going back to the Fed, we don't think it changes anything Right now.
• 3:55
  Megan Horneman: Economic growth is still.
• 3:56
  Megan Horneman: We had a very strong economic growth last year.
• 3:59
  Megan Horneman: The European Union had two negative back-to-back prints, so we're in a different economic situation here.
• 4:06
  Megan Horneman: We also still have this sticky inflation that we're struggling with.
• 4:09
  Megan Horneman: The Fed just simply does not have enough evidence that we can't see inflation tick back higher.
• 4:15
  Megan Horneman: If they were to cut rates we still lean towards a December rate cut maybe, but more towards the beginning of next year.
• 4:22
  Megan Horneman: For the Federal Reserve, the only thing that would change that opinion is if we saw economic growth really start to deteriorate at a rapid fashion.
• 4:30
  Megan Horneman: We're seeing it slowing that.
• 4:32
  Megan Horneman: This is primarily consumer-driven, but we just think that inflation is still too sticky for them to make any moves anytime soon.
• 4:39
  Megan Horneman: That's all we have today.
• 4:41
  Megan Horneman: If you have any questions or comments, please feel free to reach out to podcasts at Verdence.
• 4:44
  Megan Horneman: com.
• 4:45
  Megan Horneman: Thank you.