Both the ECB and BoE are likely to be under new leadership within the next nine months. While Draghi’s eight-year term expires in October, Mark Carney’s is expected to end in January 2020.
This transition will come at a pivotal time when both banks are struggling to initiate the process of normalising interest rates late into the business cycle, with little or no firepower remaining. It is, therefore, imperative that robust processes are in place and that these can be run free from political interference.
The UK Chancellor this week initiated the process for finding Carney’s successor. A decision isn’t expected until October, but the current frontrunner is Andrew Bailey, Chief Executive of the FCA. Raghuram Rajan, former Governor of the Reserve Bank of India is a close second, together with Shriti Vadera, former Deputy Governor of the BoE.
Prospective candidates are facing a daunting task and will have to skilfully navigate the ongoing political uncertainty around Brexit. With Theresa May’s minority government susceptible to collapsing at any time, it is unclear which government will be in charge at the time of making the decision. There is a risk that the appointment will be heavily influenced by politicians’ agendas. As we have seen in the past, Brexiteers were infuriated by the role the current Governor has played by flagging the economic risks associated with Brexit. Some might say he was simply doing his job. At the other extreme a general election could result in a change to the Bank’s remit, with Labour suggesting a target rate for productivity growth – a climb down from earlier suggestions of withdrawing/diluting the Bank’s independence.
In the Eurozone, Draghi’s exit will coincide with the first sitting of the new European Commission following European elections in May. His successor will be appointed by the heads of states at the suggestions of the respective finance ministers. Yet the appointment of Draghi’s successor is only one of a number of top-jobs under consideration. There is the risk that perspective is lost in the scramble for influence and a weaker candidate might miss the opportunity for a long overdue debate on the wider economic vision for the Eurozone and the Euro. For too long have Eurozone leaders washed their hands of responsibility for driving economic growth and instead relied on the interventions of the ECB. A consensus on economic policy and structural reforms is now long overdue.
Credible and robust leadership
It is imperative that both Banks see credible and robust leaders at the helm, intent on preserving their independence. The Banks’ widening mandates are increasingly likely to put them at odds with political leaders, particularly those pursuing populist agendas. The financial stability of the economies that the Banks are custodians of should not be diluted at the expense of short-sighted political agendas.
Strong leadership will enable both institutions to focus on the mammoth task of normalising monetary policy having emptied their arsenals to support their respective economies. Firstly, the Banks have the tall task of raising interest rate and interest rate expectations. Secondly, they will have to reduce their balance sheets that have been innovatively used to lower longer-term interest rates. Both tasks may prove more challenging than they appear at first glance, given that few know the true impact that recent monetary policy has had and, therefore, the impact of its reversals.
Recent monetary policy may have been so effective that asset prices are now dependent on a low interest rate environment. Should this be the case, expect financial markets to fight the central banks every step of the way.
Upcoming data releases
Looking to the week ahead, we will see a series of GDP figures for the Eurozone (Tue) that are likely to show a small rebound while unemployment (Tue) will remain unchanged at 7.8%, although the rise in Spanish unemployment is a worry. Friday’s CPI figures should show an increase for April to 1.6% having been 1.4% in March. This will see Core CPI revert to its longer term trend of 1.00%. Thursday will see the BoE meet. It is unlikely that the delay to Brexit will provide a window for a rate increase of 0.25%. As such, expect rates to remain on hold at 0.75% despite strong labour markets and signs of rising unit labour costs. PMI numbers will also be released this week with manufacturing on Wednesday and Services on Friday. In the US, there will be a series of data releases this week with an uneventful Fed meeting on Wednesday and nonfarm payrolls on Friday.
For more information, please contact Shane Canavan, Director at Chatham, at email@example.com.