Commentary Directory

No Tapering Yet

Jacob Hess
September 13, 2021

The Week Behind

The rebound in global economic growth has brought central banks in the spotlight as they look to unwind from accommodative positions. The situation is tenuous and has been made complicated by volatile public health conditions as various countries face troubles from resurging COVID infection rates. It has become a delicate balancing act for the mouthpieces of monetary policy trying to acknowledge the renewed risks while ensuring markets to stick to the plan. Last week, three central banks from developed nations took the stage to do just that: the Reserve Bank of Australia (RBA), the Bank of Canada (BoC), and the European Central Bank (ECB).

The RBA finds itself in grappling with normalization as Australia sees its worst wave of COVID infections since the pandemic began. The most recent 7-day case growth rate of 1,739 beats the previous high of 552 on Aug 2020. Regional lockdowns have been reinstated and have already started to restrict activity. The RBA acknowledges that strong growth is set to be interrupted: "GDP is expected to decline materially in the September quarter and the unemployment rate will move higher over coming months." However, in a bid to maintain optimistic, it assures of the "temporary" nature of the setback and emphasizes that only some regions are facing contraction while others are "continuing to grow strongly."

Despite the uncertain conditions, the RBA moved ahead with its reduction in government security purchases from $5 billion to $4 billion, but it extended the length of the program from "until early September" to "at least mid-February 2022." Tapering in number only. In reality, the cumulative effect of the changes indicates an increase in quantitative easing if this pattern holds through early 2022. The change also contradicted a quote from the July meeting where the RBA looked to move away from a "commitment to a specific rate of purchases over an extended period of time." This detail shows how disruptive the new restrictions have been in advancing towards normalization. As a result, the RBA remains on the offensive.

A day later, the BoC's monetary policy announcement was released. Canada's recent rise in COVID infections has not been as bad as previous waves and, consequently, has not forced lockdowns in the same way. However, that has not stopped growth from stalling. GDP fell by about -1% in Q2 2021 and shorted the BoC's July projections as supply chain disruptions and a housing activity pull back weighed. On a positive note, the bank pointed out that "domestic demand grew at more than 3%." Indeed, employment and consumption avoided contraction despite the spike in COVID, and elevated inflation continued. These positive factors led the BoC to say that "the Canadian economy still has considerable excess capacity."

Regardless of that assessment, Canada's central bank held firm on policy rates and the pace of asset purchases. This was largely expected, and in fact, with Delta risks materializing, it was thought the BoC could go either way in its decision. Instead, the Governing Council remains in wait and see mode. Tapering remains on the table later this year if the recent contraction proves to be temporary, and inflation stays elevated. The BoC acknowledged "CPI inflation remains above 3 percent as expected" and is still monitoring the inflation and labor market releases. Like the Fed, it will use the jobs recovery to guide its decision making regarding tapering. According to Statistics Canada, "Employment is within 156,000 (-0.8%) of its February 2020 level, the closest since the onset of the pandemic." It would not be a surprise to see a reduction in asset purchases next meeting or two.

Finally, the ECB took the stage to end the week. Its monetary policy decision is the 2nd after it shifted its monetary policy strategy to adopt a "symmetric 2% inflation target over the medium term" in order to acknowledge that inflation over the target 2% is equally undesirable as inflation below 2%. The most recent measure of inflation came in at 3.0% YoY in Aug, up from 2.2% YoY in Jul. However, core inflation (ex-unprocessed food, energy) was closer to the target at 1.6% YoY. Combine this with a solid rate of GDP growth, and the ECB is looking at a solid euro area recovery that is relatively undisturbed by the new Delta cases. Like the previous two central banks, tapering was definitely on the table.

And we got the smallest taste of that tapering. The ECB maintained policy rates and APP purchase rates while choosing to reduce PEPP purchases to "a moderately lower pace of net asset purchases under the PEPP than in the previous two quarters." While the ECB is not known for tapering, this change was mostly expected and acted as a signal to markets that the Governing Council sees the increase in inflation and that it is impacting their deliberations. This was also evident in the release of the Sept economic projections where growth and inflation projections increased over June. In fact, the ECB now admits that it expects to see 2.2% HICP inflation at the end of the 2021, up from 1.9% projected in June. It is likely that this will set the stage for further tightening of the APP and PEPP purchases by early next year. Of course, there will be consideration of near-term economic conditions, but they aren't expected to change: "Real GDP growth is expected to increase again vigorously in the third quarter."

Three developed market central banks, three passes on tapering. This sets the stage for the Fed to decide whether it wants to take pole position in tapering among advanced economies. Recent soft economic data could delay that, but there are still some expectations that the September decision will come with reduced asset purchases.

Chart of the Week


Tapering remains on the table for Australia, Canada, and the euro area as their central banks take a pass in their September meetings.

The Week Ahead

Inflation reports for the US, the UK, and the eurozone will come out this week to set the stage for the Fed next week. We'll also see the initial reading of September consumer sentiment on Fri after it took a sharp negative turn in August. There should be a bit of a bounce there as Delta risks have settled but likely not a large one. Elevated input prices finally falling through to the consumer continue to weigh on the personal finances of consumers.