The Monetary Authority of Singapore (MAS) said it will maintain the prevailing rate of appreciation of its exchange rate-based policy band known as the Nominal Effective Exchange Rate, or S$NEER.

The width and the level at which the band is centred did not change.

“Barring any further global shocks, the Singapore economy is expected to strengthen in 2024, with growth becoming more broad-based. MAS core inflation is likely to remain elevated in the earlier part of the year, but should decline gradually and step down by Q4, before falling further next year,” MAS said in a statement.

Maybank economist Chua Hak Bin said the central bank is maintaining the current tightening bias as both core and headline inflation gauges are above 3% and historical comfort zones.

Core inflation in December was 3.3% year-on-year, slowing from its peak of 5.5% early last year.

MAS said core inflation is projected to ease to an average of 2.5–3.5% for 2024 after rising in the current quarter because of a 1 percentage point sales tax hike from January that MAS said will have a “transitory impact”.

Gross domestic product (GDP) was up 2.8% on a yearly basis in the fourth quarter of last year, according to advance estimates published by the trade ministry in early January.

GDP for the full year of 2023 was 1.2%, and the trade ministry projects GDP to grow by 1-3% in 2024.

“Prospects for the Singapore economy should continue to improve in 2024,” said the MAS, although both upside and downside risks to the inflation outlook remain.

OCBC economist Selena Ling said that suggests the MAS is on an extended policy pause for now.

“April monetary policy is likely another hold and the earliest window for an easing could only come later in the year when core inflation eases more convincingly,” she said.

The MAS policy decision on Monday was the first under its new review schedule, in which the central bank will make policy announcements every quarter instead of semi-annually.

The central bank left monetary policy unchanged in April and October last year, reflecting growth concerns, having tightened policy at five consecutive reviews prior to that.

As a heavily trade-reliant economy, Singapore uses a unique method of managing monetary policy, tweaking the exchange rate of its dollar against a basket of currencies instead of domestic interest rates like most other countries.

Source: Reuters

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Assessing tail risks to the euro area economy

In Chavleishvili, Kremer and Lund-Thomsen (2023), we develop a novel approach to gauge the potential short- to medium-term costs and benefits of alternative policy actions when monetary policy faces trade-offs between financial and macroeconomic stability. The structural quantile vector autoregressive (QVAR) model – introduced by Chavleishvili and Manganelli (2023) – provides a flexible way of estimating the dynamic interactions between our main variables of interest: real GDP growth, inflation, short-term interest rates and financial stability conditions.^[2] The “flexible” attribute refers to the fact that the estimated interactions can be weaker or stronger in the centre and in the tails of the “joint probability distributions” of the model variables. Financial stability conditions are captured by two summary indicators measuring financial imbalances and system-wide financial stress, respectively. Using quantile regression allows us to uncover non-linearities in the dynamics of the model variables like in the seminal “growth-at-risk” paper by Adrian et al. (2019), which documents a much stronger impact of financial distress on the left tail of the growth distribution. By considering the entire probability distribution of our variables of interest, we can evaluate policy options not just in terms of their most likely outcomes, but also in terms of the tail risks associated with particularly undesirable states such as systemic crises. The quantification of tail risks thus lends itself to a risk management perspective on financial stability considerations in monetary policy (see Kilian and Manganelli, 2008), a perspective that focuses on the balance of upside and downside risks to inflation and economic activity rather than on the mean forecasts of both variables.

To operationalise financial stability, our model includes two measures widely used in ECB analysis. The first one is the Systemic Risk Indicator (SRI), which measures the financial cycle and, by extension, system-wide financial imbalances (see Lang et al., 2019). The second is the Composite Indicator of Systemic Stress (CISS), which quantifies systemic stress in the financial system (see Holló et al., 2012, and Chavleishvili and Kremer, 2023). Conceptually, one may think of the former as systemic risk ex ante, i.e. the risk of a future financial crisis, and of the latter as systemic risk ex post, i.e. materialised systemic risk. A typical financial boom-bust cycle would then see an elevated level of the SRI followed by a steep rise in the CISS as the bubble bursts and the system deleverages, with the Great Financial Crisis being a prominent example. The risk of such a boom-bust pattern poses an intertemporal financial stability trade-off for monetary policy: it can try to curb the financial boom by keeping interest rates higher than they would otherwise be, at the cost of weaker economic growth over the short run and at the benefit of a financial crisis being less likely and less severe over the medium term. In this article, however, we focus on another: the intratemporal financial stability trade-off for monetary policy, in which monetary policy itself may trigger more immediate financial instability.

The intratemporal financial stability trade-off in 2022

The circumstances prevailing in 2022 in the euro area and in many other places in the world, marked a stark turning point in the monetary policy stance. At the time, surging inflation called for a sharp tightening of monetary policy, even though economic growth was slowing after the post-pandemic rebound and financial stress was increasing on the back of the Russian aggression in Ukraine. In addition, the financial system at the time was vulnerable to a policy reversal because after a decade of accommodative monetary policy, the yield curve was flat and risk premia were at historically low levels, implying elevated risks to the profitability of banks and other financial intermediaries from a sharp rise in short-term interest rates.

To quantify the intratemporal financial stability trade-off in the euro area, we forecast the full distribution of our model variables over a period of four years, starting with the fourth quarter of 2022 (Q4 2022). In the baseline scenario, we fix the path of interest rates to the expected short-term market rates from the September 2022 Survey of Monetary Analysts (SMA) conducted by the ECB. In the baseline, we also require the mean forecast of real GDP growth, HICP inflation and commodity prices between Q4 2022 and Q4 2024 to reflect the ECB’s publicly available macroeconomic projections. This approach allows us to replicate the context in which policymakers were deciding on the path forward at the time while still considering macro-financial tail risks.

In addition to the baseline scenario, we also consider two alternative policy scenarios with different paths of short-term interest rates. The first one is “front-loading”, whereby policy rates are hiked more quickly. This helps prevent inflation from becoming entrenched, but it can also hurt systemically relevant banks and other financial intermediaries that have become particularly vulnerable to interest rate risk. The March 2023 banking turmoil in the United States and elsewhere provides a clear example of how monetary tightening may induce, or expose, financial fragility (see, e.g., Jiang et al., 2023, and Acharya et al., 2023). The second scenario considers a gradual monetary tightening. This may alleviate strains on financial stability, but at the cost of making high inflation more persistent, thereby creating the risk of long-term inflation expectations becoming de-anchored from the ECB’s 2% target. All three interest rate paths are illustrated in Chart 1.

Chart 1

Counterfactual paths for short-term interest rates in the euro area

Chart 2 plots the projected paths of the mean as well as the 10^th and 90^th percentiles of the forecast density of real GDP growth and the CISS using the three interest rate paths above. As previously noted, in the case of real GDP growth, the dotted line is restricted to meet the ECB’s growth projections at the time. The 10^th and the 90^th conditional percentiles represent the downside and the upside tail risks around these mean projections, respectively.^[3] Looking at the chart, we see that downside risks to real GDP growth (blue lines, left chart), as well as upside risks to systemic stress (red lines, right chart) are amplified by the interest rate front-loading in the short term compared to the baseline, and that the effects are larger compared to the respective opposite tails. Tightening monetary policy above market expectations increases the probability of realising a high level of systemic stress, in turn feeding into downside risks to growth. In contrast, a more gradual tightening has the opposite effects.

Chart 2

Forecast distributions of euro area real GDP (left) growth and the CISS (right) in the three policy scenarios

Overall, when comparing the short- to medium-term costs and benefits of the scenarios vis-à-vis the baseline forecast, the results generally do not support a more aggressive tightening path than what was expected by market participants in the autumn of 2022. The elevated downside risks to growth may outweigh the only modest gains in lower predicted inflation. That said, a policymaker who is particularly concerned about inflation expectations becoming de-anchored from target inflation may still be inclined to favour tighter policy. On the other hand, if policymakers were more concerned about the risk of causing severe financial distress by front-loading policy, the scenario could be modified to resemble, for example, the so-called “taper tantrum”, an episode of severe financial stress that occurred in 2013 when the Federal Reserve hinted at tapering its bond-buying programme.

Another consideration is that we have modelled monetary policy rather simplistically, with short-term rates being the only instrument. Today, monetary policymakers have several tools available, some of which can be used to separately target price and financial stability concerns, potentially mitigating the intratemporal financial stability trade-off. Still, a policymaker may prefer to avoid sparking financial stress to begin with, even if it can be contained with the right combination of tools.

Monetary policy from a risk manager’s perspective

In this article, we sketched a novel empirical approach to quantify the macroeconomic costs and benefits of monetary policies which take financial stability considerations explicitly into account. The approach has the distinct advantage that financial stability considerations are not introduced ad hoc or as pure “side effects” of monetary policy. In contrast, financial stability trade-offs enter the policy calculus through their direct effects on future inflation and economic activity. Our approach allows monetary policymakers to adopt a risk management perspective when confronted with elevated macroeconomic tails risks associated with certain risks to financial stability.

Source: ECB Europa

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The story of Germany in the years after the First World War is a striking reminder of how price stability and democracy go hand in hand.

The historian Gerald Feldman famously called those troubled years “the Great Disorder”. And although the relative contributions of the hyperinflation of the 1920s and the deflation of the 1930s are still debated, there is little doubt that wild swings in prices eroded the economic foundations of democracy.

One of the ways in which price instability does this is by triggering large distributional effects, which often hurt the poorest in society the most. For example, ECB analysis finds that the spike in inflation over the last 18 months has disproportionately affected low-income households as they spend more of their income on necessities like energy and food, which saw surging prices.

These are fundamental reasons why, in most liberal democracies, central banks have been entrusted with mandates to preserve price stability. And at the ECB, we will never compromise on our mandate. That is why, in response to rising inflation, we raised interest rates at the fastest pace in our history, by 450 basis points in just over a year. And we will return inflation to our medium-term target in a timely manner.

However, having made such a large and fast adjustment, we are in a phase of our policy cycle which I would characterise as being “attentive and focused”.

We need to be attentive to the different forces affecting inflation: the unwinding of past energy shocks, the strength of monetary policy transmission, the dynamics of wages and the evolution of inflation expectations. And we need to remain focused on bringing inflation back to our target, and not rush to premature conclusions based on short-term developments.

The forces pushing down inflation

There are two main forces pushing down inflation today.

First, the energy and supply chain shocks which played a substantial role in last year’s inflation surge are now unwinding.

At its peak, energy and food accounted for more than two-thirds of headline inflation in the euro area, despite representing less than one-third of the consumption basket. And together with supply chain disruptions, this also had a sizeable effect on core inflation – inflation excluding food and energy – as input costs rose for firms across the economy.

So, it is not surprising that as supply chains heal and energy prices fall, we are seeing the reverse effect, and both headline and core inflation are coming down.

We expect headline inflation to rise again slightly in the coming months, mainly owing to some base effects. This reflects the sizeable drops in energy costs observed around the turn of last year, and the reversal of some of the fiscal measures that were put in place to fight the energy crisis. But we should see a further weakening of overall inflationary pressures.

The second force is the impact of our monetary policy tightening.

We had to tighten monetary policy forcefully to bring demand into line with supply and keep inflation expectations anchored while inflation surged. And this policy adjustment has fed quickly into financing conditions. But its peak impact on inflation will only materialise with a lag – and given the unprecedented scale and speed of our tightening, there is some uncertainty about how strong this effect will be.

So, we need to be attentive to how these forces are working through the economy. But given the scale of our policy adjustment, we can now allow some time for them to unfold.

That is why, at our last meeting, we held interest rates at their present levels. And based on our current assessment, we consider that the key ECB interest rates are at levels that, maintained for a sufficiently long duration, will make a substantial contribution to returning inflation to our medium-term target in a timely manner.

Avoiding persistent inflation

But this is not the time to start declaring victory. The nature of the inflation process in the euro area means that we will need to remain attentive to the risks of persistent inflation as well.

As wage-setting in the euro area is multi-annual and staggered, the high inflation rates that are now behind us are still having a significant influence on wage agreements today. For example, the annual growth rate of compensation per employee was 5.6% in the second quarter of 2023, a 1.2 percentage point increase compared with the average for 2022.

And the ability of workers to obtain higher wages is being supported by a tight labour market and strong demand for labour, which has proven surprisingly resilient to a slowing economy since the end of 2022.

For now, our assessment is that strong wage growth mainly reflects “catch-up” effects related to past inflation, rather than a self-fulfilling dynamic where people expect higher inflation in the future. But to assess how wages are evolving and whether they pose a risk to price stability, we will be closely monitoring a number of developments.

First, whether firms absorb rising wages in their profit margins, which would allow real wages to recover some of their past losses without the increase being fully passed through to inflation.

Second, whether there is some easing of labour market tightness, which would prevent excess demand for labour from becoming a driver of persistently high wage demands.

And third, that inflation expectations remain anchored, which ensures that, when the current shock passes, wage and price-setting will be guided by our 2% inflation target.

In other words, we will need to remain attentive until we have firm evidence that the conditions are in place for inflation to return sustainably to our goal.

That is why we have said our future decisions will ensure that our policy rates will be set at sufficiently restrictive levels for as long as necessary. And we have made those future decisions conditional on the incoming data, meaning that we can act again if we see rising risks of missing our inflation target.

Source : ECB

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The concept of Stabilitätskultur, or culture of stability, was first used by former Bundesbank President Helmut Schlesinger in 1991. In coining this phrase, he wanted to emphasise that stable money – the remit of central banks − not only required a stability-oriented policy from the central bank, but also from the government and society at large.

In the face of the current climate and nature crises, Schlesinger’s insight that stability-oriented institutions cannot pursue their objectives in isolation could hardly be more relevant. The Emissions Gap Report published by the UN earlier this week concludes that the world is on a global heating path of 3°C, far above the Paris Agreement objective of well below 2°C. And earlier studies have shown that 25% of species are vulnerable and an estimated one million species face a risk of extinction. Today I will convey that a culture of stability can only be preserved if climate and nature are stable. Most central banks and banking supervisors around the world have acknowledged this in recent years. And the ECB is putting it into practice in all its tasks and responsibilities, including our banking supervision and our monetary policy, the latter being the focus of my remarks today.

Taking climate and nature into account

As I have often said before and will reiterate today to remove any possibly remaining doubt: central banks and supervisors like the ECB are not, and do not intend to be, climate and nature policymakers. Moreover, as an independent central bank, the ECB is not directly bound by the European Climate Law that since 2021 has committed the EU to achieving climate neutrality by 2050 with interim deadlines. This does not mean, however, that the ECB is allowed to ignore the Climate Law. The EU Treaty requires environmental protection to be integrated into the definition and implementation of EU policies. The Treaty imposes an obligation on us to take into account the objectives of climate and nature-related legislation when performing our monetary policy and banking supervision tasks.

This is not just a legal reality. The massive impact of the climate and nature crises on the economy, including the financial system, makes it crystal clear that we must take climate and nature into account. In fact, if we didn’t do so, we would risk failing to deliver on our mandate.

The relevance of climate and nature for monetary policy

At least five economic consequences of the climate and nature crises are specifically relevant to monetary policy and our primary objective of maintaining price stability.

First, we can expect macroeconomic volatility – including the volatility of inflation – to increase further as climate and nature events occur more frequently and have a greater impact on the economy.

Second, climate and nature shocks complicate monetary policy analysis and make it harder to assess the appropriate monetary policy response. Whether we are dealing with more frequent extreme weather events and nature degradation or actions to support the green transition, climate and nature events may largely materialise in the form of supply shocks, implying that economic activity and inflation move in opposite directions. Generally speaking, as supply shocks involve a potential trade-off, they are more challenging for central banks than demand shocks. If supply shocks persistently affect inflation, they may generate risks for price stability and so trigger a change to monetary policy that would further dampen economic activity. If, however, supply shocks are temporary and pose no risk to medium-term price stability, central banks can look through them and avoid slowing down the economy.

Third, the ongoing climate and nature crises may cause the equilibrium rate of interest to fall. The equilibrium rate is the interest rate that prevails when all shocks to the economy have dissipated and monetary policy is neither accommodative nor restrictive. Greater uncertainty owing to the climate and nature crises and the necessity to build up resilience to shocks can increase economic agents’ propensity to save, thereby lowering the equilibrium interest rate. A lower equilibrium rate implies that future monetary policy could come up against the effective lower bound for interest rates more often, though the more frequent occurrence of negative supply shocks that I referred to earlier may mitigate this effect to some extent.

Fourth, financial risks arising from climate and nature crises can impair the soundness of financial institutions. Should these risks materialise – despite all our efforts as a banking supervisor to mitigate them – the transmission of our monetary policy could be affected. Monetary policy decisions would be transmitted through the financial system and the economy in a less orderly and less predictable manner, potentially hampering our effectiveness in achieving our price stability objective.

Fifth, the risks that may affect financial institutions can also undermine the solidity of the central bank balance sheet. Unlike commercial banks, central banks are not profit-seeking and only expose themselves to financial risks if helpful in achieving price stability. This is especially true when such risks can cause financial losses that could erode confidence in the central bank’s ability to deliver price stability. Prudent central banks will thus seek to avoid any climate and nature-related financial risks that do not contribute to price stability.

I am not aware of any evidence suggesting that seeking exposures to climate and nature-related financial risks might help in securing and maintaining price stability. On the contrary, available evidence suggests the opposite is true. In fact, when we align our portfolios with the market status quo of high exposure to climate and nature-related financial risks, we risk adding to macroeconomic volatility. As already mentioned, this would make it harder to achieve the monetary policy goal of price stability.

To summarise, in the pursuit of price stability, central banks benefit from mitigation of climate and nature-related risks, which – as analysis consistently shows − is best ensured by securing a timely and orderly transition.

The ECB’s climate actions so far

Against this backdrop, in 2021 the ECB explicitly acknowledged that climate change had profound implications for price stability through its impact on the structure and cyclical dynamics of the economy and the financial system. In the case of the ECB, actions on climate equally serve our secondary objective, as also laid down in the EU Treaties, of supporting the general economic policies in the EU, which include the EU’s climate objectives. Accordingly, we unveiled an ambitious climate action plan covering macroeconomic modelling, financial stability monitoring, data collection, risk assessment capabilities and our monetary policy operations.

And this wasn’t just a plan. We delivered on it, just like we said we would. Let me give you some specific examples of how we have put into practice what were still mere ambitions back in 2021.

First, we have made significant progress in improving our capabilities to take climate considerations into account in the macroeconomic analyses that inform our monetary policy assessment. For example, we can now use a suite of macroeconomic models to analyse the economic consequences of the green transition in the euro area. Using this suite of models, staff have found that an increase in carbon pricing in line with the International Energy Agency’s net-zero scenarios may have a limited impact on economic growth and inflation. The analysis also suggests that due to the low substitutability of non-sustainable and sustainable consumption, the carbon price path envisaged by the Agency may not actually be sufficient to achieve net-zero objectives. This implies that either carbon prices would need to increase further, or that additional regulation would be required, or a combination of both. Again, we would need to be ready to take into account any monetary policy implications that could arise as a result.

Acknowledging that climate factors can have an impact on our monetary policy assessment is not just “what-if” thinking. ECB research shows that the related effects are already materialising. For example, ECB staff estimates suggest that the heatwave in 2022 pushed up food price inflation by up to 0.67 percentage points, with the impact lasting well into 2023. Thanks to our enhanced analytical capabilities, earlier this year we were able to acknowledge for the first time – in our monetary policy statement issued after the Governing Council meeting – that climate factors posed an upside risk to the inflation outlook.

Second, between October 2022 and July 2023 we started tilting our reinvestments of corporate bonds towards issuers that have a better climate performance. In so doing, we can avoid undue exposures to climate-related risks that are detrimental to price stability and align the way we administer our monetary policy more closely with the EU’s general economic policies. As of July 2023 we suspended bond purchases in our asset purchase programme, including corporate bonds, to support the downward pressure exerted by our current policy rates in order to bring inflation back to our 2% target. If required from a monetary policy perspective, the established direction of the tilt will set the minimum benchmark for any future corporate bond purchases.

In addition to our bond holdings, we are also looking at the collateral framework that we apply in relation to banks’ participation in our lending operations. We have decided that only assets that comply with the EU Corporate Sustainability Reporting Directive will remain eligible once it enters into force. In addition, we are now looking at setting limits on the share of assets issued by entities with a high carbon footprint that banks can pledge as collateral for our lending operations.

Some avenues that we explored did not result in us having to make any changes. When we reviewed the resilience of the haircuts that we apply to collateral valuation, we did not find any evidence that the existing scheme provides insufficient protection against climate-related financial risks over the horizon for which these haircuts should provide protection. We will continue to evaluate this in the future as and when better data become available.

Our current actions aim to support a high degree of confidence in the alignment of our activities with the goals set by the Paris Agreement within our mandate. However, the decarbonisation path for our monetary policy assets remains dependent on actions that are not fully under our control, including the decarbonisation efforts made by the issuers of bonds that we hold.

Evaluating, adapting and broadening our actions to include nature

This is one of the main reasons why we have made a commitment to regularly review all our measures to assess their impact. If necessary, we will adapt them to ensure they continue to fulfil their monetary policy objectives and support the decarbonisation path to reach the goals set by the Paris Agreement and the EU climate neutrality objectives. Moreover, we will also look into addressing additional environmental challenges within our mandate. Even if the legislative environment on nature preservation is trailing behind that on climate change – in spite of the landmark Nature Restoration Law – our initial analyses show that nature-related risks are highly relevant for the European economy and financial system. Out of 4.2 million firms that we looked at, around three million are highly dependent on at least one ecosystem service, services provided by nature that are significantly subject to degradation.

Besides making continued efforts to further enhance our analytical capabilities and deliver on our data needs, what else should we include when we assess our actions? Given the prevailing inflation outlook and the need for us to continue to implement a sufficiently restrictive monetary policy to bring inflation sustainably back to our 2% target, we do not expect to expand our balance sheet again anytime soon. However, that doesn’t mean that we don’t need to continue re-evaluating the fitness of the instruments we have in our toolkit in case policy adjustments are required. Moreover, in proceeding with the rundown of our balance sheet, we need to think about which features we would like to maintain in a steady state.

Our monetary policy strategy enables us to think about both questions. Specifically, whenever we are faced with two configurations of the set of instruments that would be equally conducive to maintaining price stability, we will and legally must choose the one that best supports the general economic policies in the EU. This implies that whenever we make a marginal adjustment to the calibration of our instruments, we must choose the option that increases our confidence in the plausibility of our decarbonisation path, unless our proportionality assessment shows that there are other, less intrusive ways of achieving price stability.

Looking ahead, besides the adjustments that we are already implementing, I think this principle may require us to consider two further avenues.

The first concerns our public sector bond holdings. Here we can apply reasoning very similar to that applied to our corporate bond holdings. Currently, the bulk of our monetary policy assets consists of bonds issued by governments of EU Member States. However, the climate and nature-related risk intensity of these bonds is not obvious owing to the absence of a clear and reliable framework to assess their compatibility with the Paris Agreement. At the same time, since the pandemic, the universe of supranational bonds issued by EU institutions has increased significantly, with green bonds representing a relatively large proportion. In my view, when there is no clear monetary policy rationale for preferring domestic sovereign bonds, we should contemplate increasing the share of EU supranational bonds in our total bond holdings to avoid potential climate and nature-related risks and to better align our balance sheet with the general economic policies in the EU. Not only is this relevant for when we would need to consider new bond purchases. It is also relevant when we need to discuss the composition of any structural bond portfolio that we might maintain in the new steady state.

Second, whenever there is a monetary policy need in the future to reconsider targeted longer-term refinancing operations for banks, there are compelling reasons to seriously consider greening them. A parallel can be drawn with the way that the ECB has in the past incorporated financial stability considerations into the design of its instruments. As of the third series that was launched in 2019, the targeted longer-term refinancing operations (TLTROs) that we offered banks comprised a lending target that excluded housing loans to avoid contributing to the formation of real estate bubbles. Similar targeting strategies can be considered to support green lending or exclude non-green lending in the future, provided an operationally efficient validation process is feasible.

Source : ECB

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The euro area economy remains weak. Foreign demand is subdued and tighter financing conditions are increasingly weighing on investment and consumer spending. The services sector is also losing steam, with weaker industrial activity spilling over to other sectors, and the impact of higher interest rates is broadening. Recent indicators point to continued weakness in the near term.

The labour market has been a bright spot supporting the euro area economy and has, so far, remained resilient to the slowdown in growth. But there are signs that it is turning. While unemployment stood at 6.4% in August, the lowest level recorded since the start of the euro, fewer new jobs are being created, including in services, which suggests that the cooling of the economy is gradually feeding through to employment.

Moreover, the risks to the growth outlook are tilted to the downside. Growth could be lower if the effects of monetary policy transmission turn out stronger than expected, or if the world economy weakens further. Furthermore, major geopolitical risks have intensified and are clouding the outlook. This may result in firms and households becoming less confident and more uncertain about the future, and dampen growth further.

At the same time, while remaining significantly above our medium-term target of 2%, recent inflation data have been in line with our expectations, confirming that our monetary policy is working. Inflation dropped sharply to 4.3% in September and the fall was visible in all its major components. Food price inflation decreased again, but – at 8.8% – remains high by historical standards. Energy prices fell by 4.6%, but have risen again more recently, and have become less predictable in view of the new geopolitical tensions. Inflation excluding energy and food also dropped to 4.5% in September, and we see continued declines in measures of underlying inflation. However, domestic inflation remains strong owing to the growing importance of wage pressures.

The inflation outlook remains surrounded by significant uncertainty. In particular, heightened geopolitical tensions could drive up energy prices and higher than anticipated increases in wages could drive inflation higher. By contrast, a stronger transmission of monetary policy or a worsening of the global economic environment would ease price pressures.

Longer-term interest rates have risen markedly since mid-September, reflecting strong increases in other major economies. The transmission of our monetary policy into broader financing conditions remains forceful. Bank funding costs have continued to rise, as have lending rates for business loans and mortgages. Banks also reported a further sharp drop in credit demand in the third quarter of the year, while credit standards for loans to firms and households tightened again, which was reflected in visibly weakened credit dynamics.

The monetary policy stance

Against this background, we decided to keep the three key ECB interest rates unchanged, at our meeting last week. The incoming information has broadly confirmed our previous assessment of the medium-term inflation outlook. Inflation is still expected to stay too high for too long, and domestic price pressures remain strong. At the same time, inflation dropped markedly in September and most measures of underlying inflation have continued to ease. Past interest rate increases continue to be transmitted forcefully into financing conditions, which is helping to push down inflation.

We consider that the key ECB interest rates are at levels that, maintained for a sufficiently long duration, will make a substantial contribution to the timely return of inflation to our 2% medium-term target. Our future decisions will ensure that policy rates will be set at sufficiently restrictive levels for as long as necessary. By the December meeting, we will have GDP growth data for the third quarter of the year, the inflation figures for October and November, and a new round of projections. We will continue to follow a data-dependent approach to determining the appropriate level and duration of restriction.

As the energy crisis fades, governments should continue to roll back the related support measures. This is essential to avoid driving up medium-term inflationary pressures, which would otherwise call for even tighter monetary policy. Fiscal policies should be designed to make the euro area economy more productive and to gradually bring down high public debt. Structural reforms and investments to enhance the euro area’s supply capacity – which would be supported by the full implementation of the Next Generation EU programme – can help reduce price pressures in the medium term, while supporting the green and digital transitions. To that end, the reform of the EU’s economic governance framework should be concluded before the end of this year and progress towards capital markets union and the completion of banking union should be accelerated.

Source : ECB

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The Monetary Policy Committee (MPC) of the Central Bank of Egypt (CBE) has announced that it will use all available monetary policy tools to maintain restrictive monetary conditions and reach the desired inflation rates. The MPC also stated that its key interest rates depend on expected inflation rates, not current inflation rates and that it will monitor the economic developments and the risks surrounding inflation expectations.

The CBE has set its inflation targets at 7% (±2%) on average in the fourth quarter of 2024 and 5% (±2%) on average in the fourth quarter of 2026.

The MPC decided to keep the CBE’s basic interest rates unchanged at 19.25% for deposits, 20.25% for lending, and 19.75% for the credit and discount rates and the main operation of the CBE. The decision was made last Thursday, amid rising global commodity prices, especially energy prices, due to the geopolitical tensions in the region. The MPC noted that global inflationary pressures have decreased recently as a result of the tight monetary policies adopted by many major economies, as well as the positive impact of the base year. However, global inflation expectations remained above the target rates for those countries.

The MPC also pointed out that the restrictive monetary policies, along with the high degree of uncertainty caused by the recent geopolitical tensions, contributed to lower global economic growth expectations compared to the previous MPC meeting.

On the domestic front, the MPC said that the real GDP growth rate stayed at 3.9% in the first quarter of 2023, the same as the fourth quarter of 2022. The MPC explained that the economic activity in the first quarter of 2023 was driven by the positive contribution of consumption and net exports. The MPC added that net exports have been the main support for growth since the first quarter of 2022, in line with the exchange rate developments. The MPC expects the GDP growth rate to slow down in the fiscal year 2022/2023 compared to the previous fiscal year, which recorded 6.7%.

“Preliminary indicators for the third quarter of 2023 reflect general stability in economic activity compared to the second quarter of 2023,” it added.

The MPC also said that the unemployment rate decreased to 7.0% in the second quarter of 2023, compared to 7.1% in the previous quarter, mainly due to the increase in the number of workers at a faster pace than the increase in the labor force.

The MPC said that, as expected, the annual urban inflation rate continued to rise, reaching 38% in September 2023, driven by an increase in food inflation, while non-food inflation slowed down. The MPC attributed the rise in food inflation for the third month in a row to the continued increase in the prices of fresh vegetables and fruits, unlike the previous months, which were affected by the increase in the prices of basic food commodities.

According to the committee, the monthly changes for each of the previous three months ending in September 2023 reflected the impact of unfavourable climatic conditions that contributed to an increase in the amount of seasonal rise in prices of agricultural products, noting that the annual rate of core inflation witnessed a slowdown for the third month in a row to record 39.7% in September 2023, compared to 40.4% in August 2023.

The MPC explained that in light of the above, it decided to keep the CBE’s basic interest rates unchanged, stressing that it will continue to evaluate the impact of the restrictive monetary policy that was taken and its impact on the economy, according to the data to be received during the coming period.

Source : Daily News Egypt

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Gold prices retreated on Thursday as the U.S. dollar and bond yields powered higher after the Federal Reserve signalled another rate hike this year and lesser chances of monetary policy easing through 2024.

Spot gold XAU= eased 0.1% to $1,927.63 per ounce by 0327 GMT, while U.S. gold futures GCcv1 shed 1% to $1,947.80.

Prices on Wednesday hit their highest since Sept. 1 before the U.S. Fed revised its economic projections with higher-for-longer rate warnings.

“Commentary signalled rates will likely stay higher for longer, which saw the market price-in reduced rate cut expectations from the Fed funds rate through 2024, which we see driving downward pressure to gold prices in the near term,” NAB Commodities Research said in a note.

The U.S. dollar index .DXY climbed 0.4% to its highest since March 9, while two-year Treasury yields rose to 17-year high after the Fed held interest rates steady but stiffened a hawkish monetary policy stance. USD/US/

The Fed sketched a stricter policy path moving forward in an inflation fight they now see lasting into 2026, but believe they can succeed in lowering inflation without wrecking the economy or leading to large job losses.

Higher interest rates discourage the buying of non-interest-paying bullion, which is priced in dollars.

“Any further downside is likely to leave the $1,900 level on watch as immediate support to hold,” said Yeap Jun Rong, Market Analyst at IG.

On investors’ radar later in the day will be the Bank of England’s policy decision on whether it is halting a run of interest rate hikes that stretches back to December 2021.

In other metals, spot silver XAG= fell 0.5% to $23.12 per ounce, platinum XPT= slipped 0.9% to $920.45 and palladium XPD= dropped 1.1% to $1,260.37.

Source : Nasdaq

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Nigeria’s central bank said on Thursday that it had delayed an interest rate meeting that had been planned for next week and that it would schedule a new meeting later.

In a statement on its website, the Central Bank of Nigeria did not say why the Sept. 25-26 meeting of its Monetary Policy Committee was delayed and a new date would be set later.

The postponement comes days after President Bola Tinubu nominated a new central bank governor and four new deputy governors. The Senate is yet to hold confirmation hearings for Tinubu’s picks.

In July, the central bank opted for a small rate hike at the first monetary policy meeting since Tinubu suspended central bank governor Godwin Emefiele.

Emefiele oversaw a much-criticised system of multiple exchange rates used to keep the local naira currency artificially strong and lent directly to businesses to try to boost growth in Africa’s biggest economy.

Tinubu criticised the central bank’s policies under Emefiele at his inauguration in May, saying they needed “thorough house-cleaning”.

Source : Yahoo

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Inflation has remained stubbornly high, exceeding central banks’ targets in most Caucasus and Central Asia (CCA) countries. Inflation rates are volatile, due to the large share of food and imported products in the consumption basket. The surge in the price of these products in 2022 and currency depreciations had strong effects in some CCA countries, but even excluding energy and food prices, inflation remains high in the region. Other factors, such as persistent supply-chain bottlenecks, have also played a role.

Monetary Policy Impact

Central banks’ ability to secure price stability hinges in large part on the credibility and effectiveness of their monetary policy. Several CCA central banks have a mandate to achieve a specific inflation rate, under inflation-targeting regimes, supported by a flexible, market-determined exchange rate. For instance, since the mid-2000s, Armenia, Georgia, Kazakhstan, the Kyrgyz Republic, and most recently Uzbekistan have transitioned to inflation-targeting regimes.

Our analyses in the CCA show that changes in the central bank’s interest rate do have an impact on inflation: an increase in the policy rate by 1 percentage point results in a decrease in the rate of inflation by 0.5 percentage point in the first year. Changes in the exchange rate are also shown to matter for inflation. A 1 percentage point exchange rate appreciation results in a 0.3 percentage point decrease in inflation in the first year.

Although most CCA central banks have raised interest rates during this inflation episode, the region still faces persistent inflationary pressures. This is because several structural factors also hamper the effectiveness of monetary policy, limiting the impact of interest rate changes on the economy:

• Shallow financial markets in the CCA, which weaken the impact of monetary policy on interest rates, bank lending, asset prices, balance sheets, and inflation expectations.
• Continuous reliance on exchange rate management and foreign exchange interventions that may offset some of the effects of interest rate changes.
• The still elevated use of the US dollar in the economy, or dollarization – despite its gradual decline over the last decade.
• Limited central bank credibility and communications, in environments with low trust in public institutions and low financial literacy.

Policy priorities

The paper highlights three main priorities for policymakers in the region:

1. Expanding central banks’ operational independence. Government influence over central banks’ decisions and operations can make it more difficult for them to do what is needed to contain inflation. Specific priorities include ensuring that fiscal policy supports disinflation and that most central bank board members do not have executive responsibilities and eliminating subsidized lending and other off-budget government spending mandates by central banks.
   
2. Increasing exchange rate flexibility to cushion external shocks and help focus monetary policy on domestic needs. It requires limiting foreign exchange interventions to only address excessive volatility in exchange rates and making foreign exchange purchases and sales equally balanced.
3. Enhancing central bank credibility by strengthening communication and transparency. Clear communication remains challenging despite recent progress on central bank transparency. CCA central banks should pursue further efforts toward a clear and forward-looking approach in explaining how their policy decisions help achieve their policy targets.

Source: International Monetary Fund

The post How More Effective Monetary Policy Can Tame Inflation in the Caucasus and Central Asia appeared first on Policy Print.

The pan-European STOXX 600 index slipped 0.3%. The benchmark index closed at its highest levels in nearly 1-1/2 years on Thursday after the European Central Bank hiked interest rates as expected but raised the possibility of a pause in September.

Rattling investor nerves, the BoJ made its yield curve control policy more flexible and loosened its defence of a long-term interest rate cap, in moves seen as a prelude to an eventual shift away from the massive monetary stimulus.

European government bond yields rose, mirroring gains in Japanese yields and putting pressure on stocks.

“Japanese investors will now have a large incentive to repatriate cash that is currently parked in USTs (U.S. Treasuries) and buy JGBs (Japanese government bonds) instead. That obviously goes for euro zone bonds too,” said Stuart Cole, chief macro economist at Equiti.

“This effectively means we could see upward pressure on yields globally and that is not great news for stocks. We also need to take into account that the past couple of days have been quite good for equity markets in general.”

Despite Friday’s weakness, the benchmark STOXX 600 looked set to notch its third straight week of gains, driven by hopes that the Federal Reserve and the ECB are nearly done hiking interest rates.

Spanish consumer prices rose by a more than anticipated 2.3% in the 12 months through July.

Separate sets of data showed the German economy stagnated in the second quarter of 2023, while the French and Spanish economies

grew at a sustained pace on the back of stronger exports and tourism.

In earnings-driven moves, Capgemini tumbled 7.0% after the French IT consulting group’s second-quarter growth slowed more than expected.

French drugmaker Sanofi slipped 2.7% as quarterly sales fell short of estimates.

Shares of Austrian sensor maker AMS Osram advanced 9.2% after the company presented a strategic re-alignment of the group and reported second-quarter results in line with its expectations.

Hermes gained 2.1% as sales at the Birkin bag maker accelerated in the second quarter, while Pan-European stock and derivatives exchange Euronext climbed 6.6% as it announced the launch of a 200-million-euro ($219.88 million) share buyback programme. 

Source: Zaywa

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