The US yield curve has been behaving in a way that usually worries economists.
An inverted yield curve, a phenomenon in which rates on bonds with longer maturities drop below those on securities with earlier maturity dates, is often a harbinger for an economic slowdown and, more often than not, a recession.
Investors who lend money to governments by buying bonds tend to demand a higher premium for holding debt with later maturities. That makes sense. The worry is that inflation over time has the potential to erode the value of the fixed payments on the bonds.
So a 10-year bond should typically offer a higher yield than a note that matures in three years or three months.
When the opposite happens, it’s a sign that investors are not concerned about inflation, but growth. In the US, the level of inversion between treasury 10-year notes and three-month debt last week reached the most in a year.
That should be supportive of the case for the Federal Reserve to cut interest rates, and moves in that direction would normally not attract any controversy or suspicion under such circumstances. But that’s not the case in the US and the reason is Donald Trump.
Late last year, when the Fed was raising rates and promising more, the US president launched a vitriolic attack on Fed chair Jerome Powell, sparking speculation that he was exploring if there were legal ways to fire him.
He was at it again on Friday, accusing the central bank of incompetence, perhaps with his mind on the jobs data released the same day, and whose strength might strengthen the case for the Fed to stay put at its July 30-31 meeting, irrespective of what bond traders want or expect.
With a view to the 2020 elections, Trump wants looser policy.
His attacks against Powell started around October 2018 and by early 2019, after a nasty market selloff in December, the Fed chair had turned decidedly dovish and now markets are expecting rate cuts.
It may well be that the change in Fed bias was motivated by changed economic circumstances alone, but the central bank hasn’t been able to shake the perception that its independence has been compromised. That won’t have been helped by disclosures in the US press that Powell had spoken with Trump over the phone a number of times in 2019.
This probably means any decision to cut rates this month or later in 2019 will be greeted with a question mark in some quarters.
Over in Turkey, President Recep Tayyip Erdogan is even less subtle. He fired the central bank governor over the weekend, having previously complained that policy was too restrictive.
The dismissal of Murat Cetinkaya via a presidential decree, the legality of which has been questioned in some quarters, came three weeks ahead of the next monetary policy meeting when, ironically, the central bank was widely expected to start an easing cycle in aid of an economy that’s still reeling from last year’s financial and economic meltdown.
The Financial Times reported that the move, described by one fund manager as “extraordinarily stupid”, raised speculation that Erdogan would push for an even deeper interest rate cut. The same investor predicted that the lira would do badly on Monday. The rand, which has been doing rather well of late, may well get caught up in all of that.
These examples demonstrate why deputy finance minister David Masondo’s comments on the level of SA’s interest rates were misguided, and why the minister, Tito Mboweni, and Reserve Bank governor Lesetja Kganyago felt compelled to step in and issue a joint statement affirming the central bank’s independence and the division of labour between the Treasury and the Bank with regards to monetary and fiscal policies.
Answering questions from this newspaper, Masondo made sensible statements about recent debates about the Bank’s mandate, explaining why ANC secretary-general Ace Magashule’s outlandish desire for a policy of “quantity easing” was, if one is to be polite, not the most intelligent suggestion ever by a politician.
But then he went further, saying the debate should have rather focused on the “appropriate stance of the current monetary policy”, even though he acknowledged that the Bank had operational independence.
Inadvertently perhaps, but he went further than those calling for a mere review of the mandate.
If politicians want to debate the “appropriate” level of rates, the only logical conclusion for the rest of us is that they would do so with a view to influencing where they would be set. Otherwise why have the discussion?
The timing couldn’t be worse.
The monetary policy committee (MPC) is due to meet on July 16-18 and recent developments — from dovish central banks globally to a strengthening rand — seem to support a cut of at least 25 basis points in the repo rate.
Imagine the market reaction if, looking at the economic data and the inflation outlook, the MPC were to decide that an even bigger drop, say 50 basis points, was warranted.
Coming just two weeks after such a senior politician had suggested rates were too high, the Bank’s credibility would be seriously undermined and Kganyago’s standing would be diminished. Masondo’s comments alone are reason enough for the MPC to think twice before being adventurous on rates.
That’s not to say the Bank should be beyond reproach or that monetary policy should be out of bounds. There’s nothing wrong with politicians exploring the role of the Bank and being engaged in debates around that.
But they need to do so responsibly. More importantly, they should be exercised more by things in their sphere of influence, which are a much more powerful determinant of the country’s economic prospects.
The reality is that, without the long-promised regulatory and structural reforms, no amount of central bank easing will get this economy going and create the desperately needed jobs.
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