Our latest views on the major central banks

Kevin Warsh is taking over a Federal Reserve that is increasingly divided after three members “did not support the inclusion of an easing bias” in the April FOMC statement, while Stephen Miran again voted for a 25bp interest rate cut. Jerome Powell’s decision to remain on the Board of the FOMC, given his term as governor doesn’t expire until January 2028, adds an extra element of intrigue and means that Stephen Miran will need to step down from his interim position to make way for Warsh.

The prospect of headline inflation above 4% this summer and the recent improvement in jobs numbers suggest an extended pause from the Federal Reserve. We don’t expect to see broad and persistent inflation though, given the lack of demand impetus and the weakness in wage growth. We see a period of prolonged elevated fuel costs as being demand destructive, which will result in a return to cooler job numbers later in the year. Lower fuel costs in 2027 create the potential for sub 2% inflation next year.

We still see the potential for the Fed to move the policy rates down towards neutral, but three months later than we previously forecast. We are now forecasting 25bp policy rate cuts at the December 2006 and March 2027 meetings.

Signals after the ECB’s April meeting have been very clear: a rate hike in June is clearly in the making. In fact, it would probably need another sharp deterioration of economic sentiment for the ECB not to hike. Even if the war in the Middle East ends tomorrow, the damage to inflation has already been done. Inflation has started and will continue to hit the eurozone economy. The key question is whether this will remain a ‘transitory’ shock, or whether supply chain disruptions could lead to wider knock‑on effects beyond transportation and food inflation.

At the same time, the big unknown for inflation and the ECB is fiscal stimulus. Having been relatively muted in the eurozone so far, a significant stepping up of government efforts to cap energy prices or to offset purchasing power losses would not only fuel the inflationary pressures, but also put more pressure on the ECB.

For now, we only see one insurance rate hike in June, to demonstrate the central bank's willingness and determination to keep inflationary expectations anchored. More rate hikes are not our base case, as it’s still hard to see that the ECB would really want to fight an exogenous supply shock at the cost of worsening an economic downturn.

We’re leaning towards a one-and-done rate hike in June, but it remains a close call. The BoE seems less sold on the need to tighten policy, given that, before the war in Iran, it was poised to cut rates at least twice this year. In what the Bank is characterising as an “active hold”, it has argued that simply not cutting amounts to de facto tightening.

Still, it feels to us that if the crisis hasn’t shown much sign of improvement by the June meeting, then a hike is likely. But we’re not convinced the three rate hikes priced by financial markets will be delivered this year. Politics is a risk, though not one that we think will affect the BoE outlook before the fourth quarter, if at all. The jobs market is weak. And the risk of second-round effects is considerably reduced compared to four years ago.

The Bank of Japan’s hesitation over rate hikes is unlikely to persist. We expect a 25bp hike in June as the board acknowledged that inflationary pressures may intensify, resulting from the supply disruption and current loose monetary conditions, if the BoJ doesn’t respond appropriately. The Middle East situation continues to pose risks to our call. But the April meeting summary indicates a more hawkish stance than in March and shows discussions among board members centred on the timing of hikes.

There were already three dissenting votes in April while some members believed a rate hike is needed soon to avoid economic harm and further inflation. We believe that the recent weakness in Japanese government bonds and the Japanese yen reflects concerns that the BoJ may be lagging behind current economic developments. With steady wage growth, we expect inflation pressure to broaden and firm up more in the second half of the year. Thus, the BoJ is likely to deliver another hike in the fourth quarter.