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Illusion of Control: Central Banks and Interest Rates
A quick look at the right chart can make things crystal clear.
On October 6, the Reserve Bank of Australia surprised the global financial community with a .25% interest rate hike, bumping it up to 3.25%.
Almost no one expected a major central bank to raise rates amidst the ongoing financial crisis. That's why the RBA's decision "was largely interpreted as a sign that the Australian central bank is confident in an economic recovery." (RTT news)
Here's what's interesting, though. According to a Bloomberg report, "Only one of 20 economists surveyed by Bloomberg News forecast today’s move. The rest predicted no change."
It's safe to say that economists missed the move because they considered the Australian economy too fragile for a rate hike. There is good logic behind such thinking; the only problem is that economic strength has little to do with the direction of rates.
That may sound shocking -- but only until you study a few charts.
At Elliott Wave International, we've said for years that central banks don't control interest rates any more than they control the weather. If conventional economists would simply plot central banks’ decisions on a chart of bond yields, they would likewise discover that bankers simply react to what the bond market dictates.
Here is a chart of the 3-month Australian Treasury Bills that our Asian-Pacific Financial Forecast subscribers saw in the April 2009 issue, with the note from the editor Mark Galasiewski:
"...the cash target rate set by Australia’s central bank, the Reserve Bank of Australia (RBA), appear to follow those in 3-month Australian Treasury Bills. T-bills have... led the RBA during the financial crisis of the past year. In fact, the record indicates that the RBA almost always follows T-bills over time."
That's why on September 28, a week before the RBA's "surprising" rate hike, Mark Galasiewski said this in an interview on Bloomberg TV Asia in Hong Kong:
"...we do have a slight gap between the cash rate target and the current market rate, so a move up to 3.25 would certainly make sense, but that depends on what happens to the market rate going forward.”
What about the Federal Reserve Bank, you may ask? Yes, it has a similar history of following the 3-month U.S. Treasury Bill yields. Subscribers to our Mon.-Wed-Fri. Short Term Update have seen charts which show this fact many times.
Now you know that the Fed and its overseas counterparts do not control interest rates. So is it really a surprise that they were powerless against the financial crisis? And do you really believe central bankers can prevent another one?
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