This month marks 15 years since the Bank of England launched its quantitative easing programme in the wake of the global financial crisis – an unprecedented economic policy response to meet the challenge of an unusual crisis.
Today, the interest rate environment is continuing to dominate the news agenda, with the BoE, US Federal Reserve and European Central Bank all keeping rates elevated in an attempt to tackle inflation.
While it does seem likely the major central banks will start to lower rates over the coming months and years, markets are grappling with what the new normal will look like. Can assets perform in the same way as they did historically, or does the impact of such extraordinary monetary policy leave scarring on the wider economy and across asset classes?
Prior to the Covid-19 pandemic there were examples, such as in Europe and Japan, of interest rates being held below the zero.
This contrasts with what we saw in the 10 years prior to the GFC. Between 1997 and 2007, the UK’s interest rate level remained between the range of 3.75 per cent and 7 per cent, so while many market participants are clamouring for BoE cuts before the end of the year, the current level of 5.25 per cent actually fits squarely in the middle of what was previously considered ‘normal’.
It remains highly unlikely that we will see a return to an ultra-low interest rate environment in the near future.
The monetary policy mix of low interest rates and quantitative easing, introduced after the GFC, pushed government bond yields across the globe to what some may deem artificially low levels.
At its most extreme, this approach involved both central banks and governments employing stimulative policies in tandem to support their economies.
The result was a dramatic post-pandemic surge of activity that fuelled both inflation and labour market strength.
That created a dilemma for central banks, with inflation persisting above target for an extended period.
Whole inflation remains above target, its likely monetary policy will be restrictive, rather than loose.
So then the next question for investors becomes: when will we exit the current period of elevated rates before entering what could be considered the ‘new normal’?
In all likelihood, the timeframe it appears we are looking at is a further two or three years from now.
Market movers
The International Monetary Fund recently published a study of 100 inflation shocks since the 1970s, and the findings revealed that in only around 60 per cent of these cases was inflation brought down within five years.
Most unresolved inflation episodes involved “premature celebrations”, possibly explained by base effects creating a false sense of security or premature policy easing. It is clear that tighter monetary policy does work – it just takes time.
At the end of 2023, global markets were enthused by falling inflation data across the major developed markets, and reacted by pricing in multiple rate cuts across 2024, with some commentators speculating that we could see as many as five cuts from the Fed.
