After years of largely unbroken (and record breaking) interest rate hikes, central banks around the world are finally catching their breaths. While analysts predicted that 2024 would be a year of rate cuts, the speed with which the cuts have happened has been surprising in some cases, especially the Swiss National Bank.
Back in January, Bloomberg Economics wrote that “Central banks are looking forward to a victory lap as inflation tracks back to target with only a modest blow to growth.” They expected the US Fed to be amongst the first movers, stating that the Fed “has reached the end of its hiking cycle. With core inflation looking to be on track to approach Fed’s 2% target –- by some key metrics — in March 2024, the FOMC likely will be able to respond to faltering growth and rising unemployment with a first rate cut then.”
However, with half of the year gone, I think the picture has turned out a bit differently than expected. The Swiss National Bank broke the line first in March 2024, to the surprise of many analysts, lowering interest rates by 25 basis points to 1.5%. Another 25 basis point rate cut quickly followed in June, signaling Switzerland’s commitment to loosening its monetary policy and maintaining its position as a frontrunner in the global easing cycle that has since gone underway.
Let’s take a quick look at some of the factors shaping the current outlook of major central banks after years of policy tightening and the impact we’re seeing in stock markets around the world.
Interest rate cuts at last
The recent spate of interest rate hikes by central banks worldwide has been a significant economic event, moreso because it finally signals an end to the historic inflationary pressures witnessed on the back end of COVID.
Monetary policy, which involves controlling the money supply and interest rates, is a crucial tool for central banks. It influences economic growth, inflation, and the overall financial stability of a country. While central banks responded with rate hikes in order to control threatening runaway inflation, many have started to loosen their monetary policies due to easing inflationary pressures and the need to stimulate economic growth.
The central banks of Switzerland, Sweden, Canada and the European Central Bank have all implemented some level of rate cuts after inflation dropped within or close to target levels. The Swiss National Bank’s decision to cut rates was based on a strong franc and falling inflation which was 1.4% in April, well within the target rate of 2%. Speaking on the latest rate cut in June, the bank’s chairman, Thomas Jordan, said “the underlying inflationary pressure has decreased again compared to the previous quarter. With today’s lowering of the SNB policy rate, we are able to maintain appropriate monetary conditions.”
However, it’s not the same story all around. Major outliers include the US Fed, New Zealand, Norway and the Bank of England which have all held rates steady. Japan has gone in the opposite direction, introducing a first rate hike after eight years of negative rates.
Stock markets see better performance
The loosening of monetary policies has had a positive impact on the performance of stock exchanges. According to Reuters, on the back of recent and predicted rate cuts, “The MSCI world equity index, which tracks shares in 49 countries, jumped 0.9%, supported by gains in Asia, Europe and on Wall Street. The S&P 500 index climbed 1.2% to a record high, the Dow Jones Industrial Average rose 0.3% and the Nasdaq Composite Index leapt 2%, also to an all-time high.”
This is unsurprising since when central banks lower interest rates, borrowing costs decrease, stimulating investment and spending. This increased economic activity often leads to higher corporate profits, raising the expected cash flows of equity claims. Furthermore, lower interest rates reduce the risk-free rate at which dividends are discounted, boosting their present value. These factors contribute to an increase in stock prices, enhancing the performance of stock exchanges.
In conclusion, the loosening of monetary policies following recent interest rate hikes is positively impacting stock market performance. The contrasting actions of the SNB and other central banks that have been reluctant to cut rates highlight the different strategies central banks employ to navigate economic challenges and fulfill their mandates. As the global economic landscape continues to evolve, the actions of these central banks will play a crucial role in shaping future economic growth and stability.
