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Think like a central banker

| Posted by: Paul Donovan | Tags: Paul Donovan Weekly

  • The slow process of central bank policy tightening will inch forwards this month. The US Federal Reserve is expected to announce its intention to start passive quantitative policy tightening. The European Central Bank is unlikely to announce the tapering of its bond buying program before October, but it is unlikely that there will be any desire to accommodate. 
  • Economic data is supportive of central bank policy tightening. Inflation measures may be a little below target, but markets pay undue reverence to these targets. Central bankers know that landing an inflation measure on a specific number is a ridiculous policy aim. As long as inflation is close to target, and not trending significantly lower, it is appropriate to use economic activity data to determine policy moves.
  • The activity data is supportive of tightening. The US labor market is at full employment, with anecdotal evidence of labor shortages in selected areas and wages moving higher. The European labor market is more mixed, but unemployment rates are falling towards full employment levels. Globally, most economies have been seeing better growth this year than last. Economic activity is around trend. Everything is normal – except central bank policies. It is time to tighten.