Monetary Policy: Central banks rein in support
Fed Sets Sights on Soaring Inflation
With inflation sitting at a 40-year high and growth likely to slow, the Fed faces a complicated task. Policymakers may have to hike their short-term rate target at a faster-than-usual pace while reducing the Fed’s balance sheet. However, if the Fed moves too aggressively, it risks stalling economic growth.
We expect the Fed’s tightening cycle to unfold with a series of measured rate hikes followed by balance sheet management. In implementing its strategy, the Fed will assess inflation levels and the economic effects of Russian sanctions.
Europe Focuses on Reducing Bond Buys
Despite rising inflation, the European Central Bank is holding interest rates at 0%, at least for now. Policymakers believe inflation should ease, and they remain focused on reducing their bond purchases.
Meanwhile, the Bank of England expects inflation to continue climbing into spring and has launched a rate-hike campaign to retaliate. Borrowing rates are at their highest level in two years. Policymakers also are tapering their bond purchases.
China Seeks Supportive Measures
Unlike its developed markets peers, the People’s Bank of China likely will ease monetary policy to spark growth. Policymakers want to increase support for key areas of the economy, and the low-inflation backdrop provides room for the central bank to ease policy.
Outside China, most EM central banks have been aggressive in hiking rates to combat inflation. We believe this tightening cycle will conclude soon.