Jul 31, 2023 - Economy

Central banks back away from guidance about what's ahead

an illustration of benjamin franklin on a 100 dollar bill wearing a blindfold

Illustration: Aïda Amer/Axios

The world's most powerful central banks suddenly have one message in common: We're not going to tell you exactly what we're about to do anymore.

Why it matters: Central banks have traded clear messages about what's ahead for more ambiguous ones — a dramatic shift in their approach as policymaking enters a more nuanced era.

Where it stands: The Bank of Japan is leaving financial markets guessing about how (and when) it will back off its ultra-easy policy. Meanwhile, the European Central Bank and the Federal Reserve are maintaining optionality about further hikes as inflation has retreated from peak levels.

  • The Fed is at "a very different stage" of policymaking, says Dean Maki, chief economist at Point72 Asset Management. "When rates were extraordinarily low, it was clear the Fed had to raise rates a lot from there. That's no longer the case."

How it works: Central banks use forward guidance to inform the public about what they are likely to do next — a tool that makes monetary policy more potent as financial markets react to that guidance.

  • That was the case last year, when the Fed sent hawkish signals that the central bank would continue to raise rates in the face of persistently high inflation that looked unlikely to recede to tolerable levels any time soon.
  • It was also used in the 2010s in reverse — with guidance that rates would stay low for years to come used as a tool to try to stimulate growth.

What they're saying: "We should use forward guidance sparingly when the course of policy is … so dependent on uncertain future developments that little really can be said constructively about the future," Fed chair Jerome Powell said in May.

  • "I think it's not an environment where we want to provide a lot of forward guidance. There's a lot of uncertainty out there," Powell said at last week's news conference.
  • "It's possible that we would move [rates up] at consecutive meetings, we're not taking that off the table — or we might not. It's really going to depend on what the data tell us. That's the best we can do," he added.

A similar tone came a day later, from Powell's counterpart across the Atlantic: "We are not in the domain of forward guidance," ECB president Christine Lagarde said at a press conference.

  • The eurozone has seen inflation drop (alongside an economy expanding slightly once more), but officials are looking for further reports to confirm that decline with many risks on the horizon.
  • Lagarde added that in coming months the ECB "might hike, we might hold."

Then came the Bank of Japan, which is in a distinctly different situation than its global peers. While others raced to tighten policy, the BOJ kept its yearslong accommodative policy intact, for fear its inflation burst would prove fleeting.

  • But Kazuo Ueda, the bank's leader, announced a more "flexible" approach to yield curve control — a huge, surprising tweak to a policy that held down interest rates across the Japanese economy.

Details: Now the central bank will allow those rates to rise a bit more freely.

  • Previously, the BOJ would not allow government bond yields to rise more than 0.5 percentage points below or above its cap.
  • Now that cap is merely a suggestion, and the central bank won't step in as long as yields stay below 1%.

But exactly what steps the BOJ will take to further tighten — and when — remains fuzzy: "Ueda may start to use forward guidance in the process of normalizing policy in the coming years," Takahide Kiuchi, an economist at Nomura Research Institute who was a former BOJ board member, tells Axios. "Now he has to be a bit more cautious."

The bottom line: Now, more than in the recent past, predicting the path of central bank policy requires predicting how the economy will evolve rather than listening to central bankers themselves.

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