Will the BoE and ECB Under or Overdeliver?

In less than 24 hours, we have interest rate decisions from 3 countries:

1. New Zealand
2. United Kingdom
3. Eurozone

With the global easing cycle in full swing, rate cuts are expected all around. New Zealand and the UK have been two of the most aggressive countries when it comes to cutting interest rates.  At their last meetings, the RBNZ delivered a 100bp rate cut while the UK delivered a 150bp cut.  In contrast, the ECB has been the least aggressive next to the BoJ who don’t have much room to cut to begin with. The RBNZ and BoE’s commitment to lowering interest rates is one of the main reasons why the Euro sold off against the New Zealand dollar and British pound today.  The BoE’s heavier hand has driven EUR/GBP back towards its record highs.

UK Service, manufacturing and construction PMI reports are all at record lows, reflecting the deep slowdown in the UK economy. There is a risk of a 125bp rate cut if the Bank of England continues to be proactive.  Since their next interest rate cut will certainly not be their last, they may decide to do more now than later.

Although weak economic data may have the European Central Bank considering a 75bp instead of 50bp rate cut, they have a track record of underdelivering when it comes to monetary easing.  A 75bp rate cut would be largest in the ECB’s history.

Here’s a look at what is expected for the upcoming meetings.

Reserve Bank of New Zealand – 150bp Cut Expected on 12/03

The Reserve Bank of New Zealand cut interest rates rates by a full percentage point in October, citing “ongoing financial market turmoil and a deteriorating outlook for global growth. In a statement published in an article released by the RBNZ, the bank notes that “global developments have proven extremely disruptive and it will likely be some time before financial market conditions normalize. The Bank will continue to adopt measures as needed to maintain the stability of our financial system as far as possible in these difficult times.”Once again we see some very dovish statements made explicitly from central banks. The recession embattled country has plenty of ammunition as rates are at the very high level of 6.50%. While zero percent interest rates may not be a possibility, it is possible that we will be surprised by some extremely aggressive cuts. The market currently expects the RBNZ to cut as much as 1.5 percentage points in December and eventually take interest rates down to 5 percent. It is also important to note that rates have not fallen below 4.50% in the last ten years.

Bank of England – 100bp Cut Expected on 12/04

The Bank of England has been the most aggressive and proactive of the G-10 central banks in their attempts to ease monetary policy. The most recent cut of 150bp was a huge surprise to all traders and represents the largest single meeting cut to occur for any of the major central banks during the financial crisis. However what was even more shocking was the fact that the minutes from the most recent monetary policy meeting in early November suggested that they considered an even larger interest rate cut. Going into the December monetary policy decision, the market expects the BoE to ease by another 100bp. With the economy in a recession according to UK officials, interest rates could fall as low as 1% if the crisis continues well into the New Year. The BoE’s ability to cut by such a sizable amount was also reflected in the fact that inflation, once the primary concern, has eased considerably in the last few months. In addition to monetary stimulus, the UK government has been at the forefront of bank bailouts and fiscal stimulus.

European Central Bank – 50bp Cut Expected on 12/04

On November 6, the European Central Bank cut interest rates by 50bp to 3.25 percent. The European Central Bank has abandoned their old monetary policy metric in the previous months, opting for a more growth-concentrated approach to interest rate decisions. Such a change has accompanied a round of rate cuts that has brought the target rate down to 3.25%. ECB President Trichet has made no indication that rate cuts would stop here. However, in relation to neighboring nations, the ECB has not acted as aggressively, dropping rates only by 75bp this year. Compared to a year to date cut of 250bp by the US and 225bp by the UK, the ECB seems to be lagging behind the curve. Now that the region has officially hit a recession, it is possible that they will be more aggressive in easing rates. The ECB has the power to organize a continuous program of such policy implementation since their target rate is one of the highest, outside of Australia and New Zealand. The only factor holding them back is inflation pressures. Although producer and consumer prices have been easing, the central bank is not entirely convinced that the upside risks to prices have alleviated.

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