A repeated activity among central bank watchers is to speculate on what a central bank will do with interest rates next, or even for the remainder of the year.
These speculations are usually based on how the economy is doing or the inflation rate. Historically, these guesses sometimes turn out to be correct, but over the decades, they are often wrong.
Here are a couple of headlines from just the past couple of years:
- We’re Probably All Wrong About Interest Rates (Bloomberg, Feb. 9, 2023)
- Why Is Everyone Always Wrong About the Fed? (Morningstar, Jan. 26, 2024)
Indeed, predictions from central banks themselves can be off the mark (Bloomberg, Feb. 27):
BOE’s Inflation Forecasts Called No Worse Than Fed and ECB
The Bank of England’s forecasts failed to predict the worst bout in inflation in generations, though its forecasting errors were only as bad as those at the US Federal Reserve and European Central Bank, according to new analysis.
This is from the European Central Bank’s own website back in March 2022:
What explains recent errors in the inflation projections of Eurosystem and ECB staff?
Yet, among all these incorrect interest rates predictions and mistaken central bank projections, there is a way to determine ahead of time what central banks will do regarding rates, and it’s summed up this way: Central banks follow the market, not the other way around.
As our April Global Market Perspective stated:
If market rates move lower … then the ECB will follow with a rate cut.
This chart and commentary from our July Global Market Perspective provides an update:
On June 6, the European Central Bank made its first interest rate cut in five years, reducing its main refinancing announcement rate from 4.5% to 4.25%. In its public statement justifying the cut, the central bank said that “prices are no longer rising so fast, and inflation is on track to return to our 2% target.” This is true, but the April 2024 GMP illustrated that bank officials simply follow short-term market rates higher or lower. … Once again, bank officials simply rationalized why they made their move.
Get all the analysis which our Global Market Perspective offers by following the link below.
How to Tell What Central Banks Will Do with Interest Rates (Video)
Central banks – yes, even the Fed — follow short-term market rates higher or lower
Many investors like to speculate about future central bank interest rate decisions. These investors often base their interest rates guesses on their views about the economy or inflation. Yet, here’s a better way to determine what central banks will do.
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