The buzzword for the latest set of interest rate decisions is forward guidance, which refers to the public disclosure of interest rate forecasts and monetary plans by central bank officials.
For instance, Bank of England head Mark Carney talked about the UK central bank's plans to keep interest rates at their current levels for the next couple of years. On the same day, European Central Bank head Mario Draghi remarked that interest rates will be kept low for an extended period.
This kind of communication strategy isn't exactly a brand-new phenomenon among central bank leaders. In fact, the US Federal Reserve has been practicing this kind of announcement for a few years already. Recall that Fed Chairman Ben Bernanke was often quoted saying that interest rates will remain at record lows for an extended period of time back when the US economy was having difficulty recovering. Recently, Bernanke gave a timeline for the stimulus taper plan, as he announced that the Fed is looking to reduce bond purchases towards the last quarter of the year and possibly ending the easing program by the middle of next year.
From the policymakers perspective, there are two main benefits that can be derived from this communication strategy. One is that it will allow them to calm the volatility in the bond markets, allowing them to keep bond yields from spiking whenever speculators think that interest rates are about to increase or decrease. This allows them to keep borrowing costs more stable, as markets already have an idea of how interest rates will be in the longer run. Next is that it enables policymakers to maximize their current monetary policy. After all, most major central banks have already slashed benchmark rates to record lows, pushing their backs against the wall when it comes to looking for more easing options. If they announce that rates will remain low for the next few years, they are able to convince banks and lenders to keep lending rates lower for much longer without actually having to cut benchmark rates or implement more asset purchases.
Because of that, forex traders are now more conscious of which central banks are dovish and which ones are leaning towards tightening monetary policy. To be specific, the ECB and BOE are clearly more dovish compared to other major central banks while the US Fed is relatively more hawkish. As a result, GBP/USD and EUR/USD could be in for stronger and longer trends moving forward.
For instance, Bank of England head Mark Carney talked about the UK central bank's plans to keep interest rates at their current levels for the next couple of years. On the same day, European Central Bank head Mario Draghi remarked that interest rates will be kept low for an extended period.
This kind of communication strategy isn't exactly a brand-new phenomenon among central bank leaders. In fact, the US Federal Reserve has been practicing this kind of announcement for a few years already. Recall that Fed Chairman Ben Bernanke was often quoted saying that interest rates will remain at record lows for an extended period of time back when the US economy was having difficulty recovering. Recently, Bernanke gave a timeline for the stimulus taper plan, as he announced that the Fed is looking to reduce bond purchases towards the last quarter of the year and possibly ending the easing program by the middle of next year.
From the policymakers perspective, there are two main benefits that can be derived from this communication strategy. One is that it will allow them to calm the volatility in the bond markets, allowing them to keep bond yields from spiking whenever speculators think that interest rates are about to increase or decrease. This allows them to keep borrowing costs more stable, as markets already have an idea of how interest rates will be in the longer run. Next is that it enables policymakers to maximize their current monetary policy. After all, most major central banks have already slashed benchmark rates to record lows, pushing their backs against the wall when it comes to looking for more easing options. If they announce that rates will remain low for the next few years, they are able to convince banks and lenders to keep lending rates lower for much longer without actually having to cut benchmark rates or implement more asset purchases.
Because of that, forex traders are now more conscious of which central banks are dovish and which ones are leaning towards tightening monetary policy. To be specific, the ECB and BOE are clearly more dovish compared to other major central banks while the US Fed is relatively more hawkish. As a result, GBP/USD and EUR/USD could be in for stronger and longer trends moving forward.
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