Monetary Policy

Looking at the state of the Turkish economy since President Erdogan decided to meddle in the affairs of its central bank; with the Lira down about 20% vs the US dollar, inflation running at 15%, and the yield on the 10yr government bond running at almost 17%, you might be tempted to think that most leaders would stay well away from the subject.

The area that caused the most concern in the Q1 report was the big drop in availability of unsecured credit to households; however, availability was unchanged in Q2, thanks in particular to a change in appetite for risk from lenders, and also an improvement in market share objectives.

Following central bank commentary and actions has been a really useful source of information in the post global financial crisis world; however, closer to home here in the UK the commentary and the actions have been less consistent than those coming from either the Fed or the ECB.

In recent weeks we have talked often about the tightening of lending standards, the possibility of the end of dot plots, and especially the shape of the US yield curve – today’s blog encompasses all three.

Following on from our recent comment on the level of Italian BTPs and how this has a potential to impact the transmission mechanism, it is interesting to note the subtle but important changes that have been applied elsewhere across the global economy.

Aside from the fact that he is Italian and once served as governor of the Italian central bank there are other reasons why Mario will be concerned at the price action in Italian Government Bonds (BTPs).

After the most hectic week of the year to date, relative calm has at least temporarily been restored to markets.

Clearly the decision by Italian President, Sergio Mattarella, to refuse the appointment of Paolo Savona as the coalition’s Finance Minister, on the grounds of him being overtly eurosceptic, has backfired badly.

During and since the global financial crisis the Federal Open Market Committee (FOMC) has done a remarkable job in navigating the US financial system under extremely challenging circumstances, setting the standard for other central banks to follow.

After another week of yield curve flattening, we now have the 2s-10s curve in US Treasuries at just 43 basis points.

Having written recently about our thoughts on how the yield curve might flatten, we should also note that whilst this, our base case scenario, is happening at the moment, there are a number of other potential strong influences that we need to monitor as they have the ability to prolong this flattening.

Having discussed the shape of the yield curve as a recessionary indicator already last week, we would like to elaborate on what other indicators we look at as fixed income investors to determine where we are in the economic cycle, which in turn determines how we position ourselves on the yield curve and whether we look to credit risks or government bond risks.