Life at the Peak

After delivering a well-crafted dovish hike last week, we think the ECB has joined the Fed in having reached “peak rates”, and we expect the Bank of England to apply to the club this week as well after one last 25 bps hike.

Still, all three central banks will make it clear they remain data dependent and will not hesitate to hike again if need be. Even in the US where the deceleration in core inflation is more advanced, the Fed cannot ignore some faint but uncomfortable signals that price pressure remains too strong. Jay Powell this week will need to “speak hawkish” despite staying put, and we expect the FOMC to maintain one additional hike for 2023 in its “dot plot”, even if we do not think they will need to act on it given our forecast of a quite mediocre end of year for US growth. There may also be some interesting changes in the FOMC’s assessment of the “long-run” policy rate. All this would prolong the market’s own moves these last few weeks with less cuts priced in for 2024. The market has not changed its pricing for the ECB by the end of next year, and we find the 50% probability of a rate cut already in March 2024 quite daring – we see the first rate cut there in June 2024 at the earliest (i.e., with a much lower than 100% probability).  

In principle, a “high enough for long” approach should be less damaging to the economy than an “always higher” trajectory which would then probably need to be followed by emergency cuts (a “Table Mountain rather than Matterhorn,” to use Huw Pill’s striking image) but unfortunately it is difficult to assess in real time if a central bank has not already gone too far. Given how the two economies are currently faring, it seems to us the risk is higher in the Euro area than in the US.

At the other end of the monetary spectrum, we expect the BOJ to continue to plough its own – very special – furrow with no change to policy or guidance this week.