Macroscope | Never mind central banks. It is bond markets that are too hawkish
- Bond markets are overreacting to the climate of extreme hawkishness created in part by the speed and aggressiveness of leading central banks’ shift to monetary tightening
- The self-induced market rout only adds to the risk of a policy mistake
Since the Covid-19 pandemic erupted, investors have had more than their fair share of thrills and spills. Yet, it is no exaggeration to say that last week was the most momentous week in global markets since central banks and governments unleashed trillions of dollars of support to prop up the financial system and counter the economic shock of the virus.
For the past several months, leading central banks, in particular the US Federal Reserve, have been tilting in a hawkish direction as it became clear that the surge in inflation was more persistent than anticipated. However, as recently as early January, the degree to which policymakers were willing to prioritise quelling inflation over supporting growth remained unclear.
In a sign of the extent to which policymakers are worried about price pressures, the more dovish European Central Bank – which had been most wedded to the view that inflation was transient, and had previously played down the likelihood of a rate hike in 2022 – declined to rule out a rise in borrowing costs later this year.
The abruptness of the more hawkish stance from some of the big central banks startled investors, most of whom had been in the transitory camp when it came to inflation and were forced to quickly readjust their expectations for monetary policy.