Soaring Expectations for Interest Rate Cuts!

In the first half of the year 2023, a noteworthy shift occurred in global monetary policy, suggesting an impending wave of easing in the latter halfThe European Central Bank (ECB) made headlines as it decided to cut interest rates in September, marking a significant development in the landscape of central bankingOn June 6, the ECB responded to economic pressures by lowering its key interest rates by 25 basis pointsThis decision adjusted the refinancing rate to 4.25%, the marginal lending rate to 4.5%, and the deposit rate to 3.75%, effective from June 12, and notably, this was the first rate cut by the ECB in five yearsSince initiating a rate hike cycle in July 2022, the ECB had raised rates ten consecutive times, accumulating a total increase of 450 basis points, before finally maintaining rates unchanged until this pivotal decision.

But the ECB was not alone in this pivot towards easing

Throughout the first half of the year, several other central banks across the globe also announced rate reductionsIn March, the Swiss National Bank, after raising rates to a 10-year high of 1.75% in March 2022, introduced a policy shift by lowering its benchmark rate to 1.5%, signaling the beginning of a new phase in the rate easing movement among central banksThis was soon followed by the Swedish Central Bank on May 8, which announced a 25 basis point rate cut to 3.75%, its first reduction in eight yearsJust weeks later on June 5, the Bank of Canada also reduced its benchmark rate by 25 basis points to 4.75%, becoming the first G7 country to implement a rate cut in this cycle of global monetary easing.

The dynamics of the monetary policy landscape continued to shift as on June 20, the Swiss National Bank again cut its benchmark rate to 1.25%. On the same day, the Bank of England opted for a more cautious approach, keeping its rate steady at 5.25%, albeit indicating that it too might soon embark on a rate reduction journey

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This collective movement towards easing raises a crucial question: how long can this global trend of monetary loosening last into the latter half of the year?

Market analysts, such as Xia Jinchuan from Huaxi Securities, suggest that the ECB’s rate cut could signify the onset of a new global monetary easing cycleHe posits that this shift may serve to ease external constraints on China’s monetary policyDespite some reluctance due to persistent inflationary pressures, the ECB's decision is seen as a milestone, marking a noteworthy change in direction amidst a backdrop of economic uncertainty.

Further insights from Wei Yi, a strategist at Huatai Securities, emphasize that historically, the ECB has either synced its rate changes with the Federal Reserve or lagged slightly behind

The current cut by the ECB is quite significant as it heralds the beginning of a rate reduction cycle among major global banks, with the ECB taking the lead in an environment characterized by normal expectations.

Citigroup recently released a report indicating that dovish statements from Federal Reserve Chair Jerome Powell, along with recent economic data, imply a potential rate cut in SeptemberCitigroup forecasts that continual weakness in economic activity could lead the Fed to consecutively lower rates over the following eight meetingsSuch a projection points towards a real possibility of a prolonged easing cycle that could affect both the domestic and international economic landscapes.

Deng Zhongyun, Chief Economist at AVIC Securities, echoed these sentiments by highlighting the significant spillover effects of the Federal Reserve’s monetary policy, especially given that the dollar serves as a primary global currency

The Fed’s policy influences the rate settings of non-US economies through various channels, resulting in alignment between their interest rates and those set by the FedShould the Fed commence a rat cut, it is likely that a new phase of global easing could follow suitHowever, he cautioned that prior to the Fed's decisive move, non-US central banks might be hesitant to implement their easing strategies in fear of potential domestic economic repercussionsFurthermore, he noted a long-term trend of de-globalization that may raise the future inflation baseline globally, suggesting that any subsequent rate cuts might have higher terminal levels than those seen during the previous rate hike cycle.

In light of these developments, how might this global wave of rate reductions impact China specifically? Liu Qiao, Dean of the Guanghua School of Management at Peking University, insightfully noted that this global shift could indeed create an opportunity for further rate reductions within China’s monetary policy framework