Monetary Policy Changes

This time Is different We don't often say that about the Fed, but after yesterday's FOMC meeting, we think it may actually be true. In fact, we believe yesterday's meeting ushered in a new era of monetary policy in the United States.    For the better part of two decades, monetary policy has followed a familiar playbook: extensive forward guidance, frequent communication, data dependence and the  Federal Funds rate as the primary policy tool. While leadership has changed, the broader framework has remained remarkably consistent.   What we heard yesterday suggests the possibility of a meaningful evolution.   We believe the Fed may be moving toward a framework that places less emphasis on signaling every move in advance and more emphasis on assessing where inflation, employment and broader economic conditions are heading. In a world of real-time data and increasingly sophisticated analytics, that could prove to be a healthier and more effective approach.   We also continue to hear indications that the policy toolkit could broaden beyond the overnight policy rate, with greater consideration of balance sheet policy, liquidity conditions, money supply dynamics and longer-term interest rates.   Importantly, change does not automatically mean more volatility. A broader set of tools and a more forward-looking approach could ultimately increase confidence in policy outcomes rather than diminish it.   For investors, the near-term message remains straightforward: inflation is still above target and remains the Fed's primary focus. While rate hikes are far from certain, they remain a possibility that markets need to respect.   That's one reason we continue to favor income-oriented fixed income opportunities over pure interest-rate expressions. And when markets overreact to uncertainty around policy change, we think there may be opportunities to sell volatility rather than buy it.   This time may indeed be different, and it will be fascinating to watch how this evolution in monetary policy unfolds. The real question is whether less signaling creates more uncertainty, or ultimately more confidence in the Fed's ability to achieve its objectives.

Monetary policy purgatory The Federal Reserve meets this week to determine the course of monetary policy. Look for another hawkish pause as they fail to signal a cut in May, but internal discussion about a cut in June heats up. Recent data on inflation has not been good, while we have seen a divergence on the surveys on employment. The household survey has shown a much greater slowdown than the estabilishment survey, which goes out to firms. The response rate on the latter has been horrible as the entire economy has grown fatigued of surveys. This was a trend pre-pandemic but has only worsened since. Current data, including the high frequency data, shows that inflation has cooled but remains too hot. The labor market is cooling and even chilling in what were some of the hottest pandemic sectors - many overhired and are exporiencing whiplash as rates spike. We have been able to absorb many but not all of those jobs. The Fed will lean toward caution on cuts again, but there is a contingent that worries about the nonlinearity in labor markets conditions. When unemployment moves up, it tends to do so rapidly. Further complicating matters is the threat that the economy is more susceptible to shocks and the inflation they trigger than pre-pandemic. This is showing up in climate change damages and the rise in material costs to make repairs. Those have boosted insurance costs. Vehicle insurance is just catching up with the surge in maintenance and repair costs of the larger, more expensive vehicles we now buy. Many argue the Fed should not worry about supply shocks. However, we have seen periods where supply shocks became imbedded in expectations. Central banks are trying to figure out how to effectively navigate a more uneven post- pandemic inflation terrains. Bottom line: Fed will punt on a March or May cut, and not signal a imminent June cut. That doesn’t mean it won’t cut in June; it just means they still want the option not to, which is hard for all those waiting for a sign the Fed is done with its higher for longer experiment. The Fed also sees normalizing rates in absence of recession as a slow process. A rapid deteraion in the labor market would prompt more rapid cuts.

Focus shifting from inflation to growth? Price action since Friday afternoon - front end yields lower and equites lower (circled) - is being pointed to as evidence, but that's too simplistic. The bigger picture is trade-offs facing central banks are becoming quite impossible now: ➡️ In this supercharged ‘world shaped by #supply’ and inflation still above target, it will be much harder for central banks to make the case that they can look through the shock, particularly after having lost control of inflation during the Covid-19 supply shock. ➡️ If oil prices do not decline soon, we believe the key question shifts from "will central banks be able to cut?" to "will their policy rates keep up with the rise in inflation?" If they don't, it means the #real interest rates - which account for inflation - will be lower, easing financial conditions instead of tightening them. ➡️ But it's not clear if central banks will hike interest rates enough to keep real rates in restrictive territory. Concerns about government #debt servicing costs could also limit how far interest rates rise.

As expected, the Fed cut rates by 25 basis points and announced an end to quantitative tightening—both steps toward further easing. However, the meeting revealed some notable divisions within the Federal Open Market Committee. One member voted against the rate cut, while another favored a larger, 50 basis point cut. This dissent was a bit unexpected. Chair Powell also highlighted strong differences of opinion about a potential December rate cut and discussed the “neutral rate”—the level at which the Fed is neither stimulating nor restraining the economy. Powell suggested a range between 3 and 4%, higher than the 3% median estimate from FOMC members. These factors led markets to pause and reassess the likelihood and pace of future rate cuts. While markets still anticipate a December cut, the path ahead may be shallower than previously expected. Both stock and bond markets reacted with caution. For investors, this complexity is a sign that the Fed is weighing risks carefully—balancing the dangers of being too easy or too tough in today’s environment.  

The Fed has taken a significant step by officially initiating its cutting cycle, which holds profound implications for the financial world. ⚠️The #FOMC has cut the FFR by 50 Basis Points to a 4.75%-5% Range. ⚠️The latest projection of the Neutral Rate, R*, came in at 2.8% versus the previous estimation of 2.9% A cutting cycle might affect other central banks' stance on monetary policy because the US Dollar could devalue considerably going into 2025, making exports from other countries like Japan more expensive. For the past two weeks, business media has made a huge story out of a 25—or 50-basis point cut, but in my opinion, today's decision on the magnitude of the cut is meaningless. Financial conditions have eased considerably since July, so it should not be a surprise that the US economy might have already started to re-accelerate. The Atlanta Fed GDPNow is flashing a Real Growth Rate of 3% for the US Economy. If that materializes, it would mean that the US #Economy is already running 1% above its potential. Why financial conditions have already started to ease? Here are some examples: ✍️Mortgage Rates decreased from 7% in July to 6.15% today ✍️The 2-Year Yield decreased from 4.75% in July to 3.63% today ✍️The 5-Year Yield decreased from 4.06% in July to 3.47% today ✍️Housing Starts have picked up momentum What market participants have priced out is a resurgence of inflation during 2025. That scenario is entirely possible if the Dollar Index drops below 100. A cheaper dollar will make commodities and import prices more expensive for the US consumer, and a reduction in real income could squeeze even more of the low to middle class into the USA. Considering the decrease in US Treasuries for the past two months, I find US Government Bonds expensive across the yield curve at these levels. I think R* is well above what the Fed estimates because of factors like de-globalization, the reshoring of strategic industries, and increased protectionism. The terminal rate post-pandemic is between 3.5% and 4%, in my opinion, and that is where I think this cutting cycle will end. If I am proven right, bond investors must reprice government bond yields higher. How do we play a potential increase in inflation in a no-landing scenario? I tilted my portfolio as I outline here below: 👉Tilt the portfolio to over-weight energy and miners. 👉Have a marginal exposure to Gold and Silver. 👉Favor TIPs over US Treasuries 👉Increase allocation to US Value Stocks and International Stocks. 👉Lock-In US Investment Grade Credit at the belly of the yield curve where we can still get 4.8% to 5% yields, especially on issues at the Single-A Rating Enjoy the ride! #Finance #InterestRates #Economy #Investing

Project Pine explores how central banks could implement #monetarypolicy using #smartcontracts in a fully tokenized environment (where money and securities exist as #digitaltokens). Its question is whether central banks could effectively implement monetary policy using smart contracts in a future where money and securities may be tokenized with the purpose to test how current central bank operations could adapt if tokenization were widely adopted. The project developed and tested a prototype “smart contract toolkit” for central bank operations such as paying interest on reserves, conducting open market operations, managing collateral, and purchasing or selling assets. A generic and customizable smart contract toolkit was developed to support core monetary policy operations: ➡️ Paying interest on reserves (including tiered and real-time interest) ➡️ Conducting open market operations (repos, swaps, outright purchases/sales) ➡️ Collateral management (eligibility, haircuts, substitution, valuation) Testing Approach and Simulation through a simulated a range of historical and hypothetical stress scenarios (liquidity shocks, bond market collapses and reserve scarcity and abundance) in which agents (e.g., commercial banks) autonomously interacted with central bank smart contracts. 🔹 Technical and Operational Findings: ➡️ The toolkit proved to be flexible, fast, and effective, with smart contracts responding instantly to changes in conditions with the prototype meting all functional requirements, including simultaneous operation of multiple tools and dynamic parameter changes. ➡️ Central banks could quickly deploy new facilities, change interest rates, and issue collateral calls, even during crises. ➡️ Use of trusted time oracles (e.g., central banks) helped avoid inefficiencies found in trustless public blockchain systems. However, the report emphasizes that the benefits of tokenization for central banks depend heavily on context. For central banks already operating highly efficient systems, gains may be incremental. Moreover, central banks would require special privileges in tokenized systems—such as trusted oracle status and enhanced data access—and must manage heightened privacy and cybersecurity risks. Project Pine also highlighted that smart contracts must be custom-built to reflect central banks' unique operational needs, since existing DeFi solutions are often unsuitable. Project Pine is a collaborative research initiative by the Bank for International Settlements – BIS Innovation Hub Swiss Centre and the New York Innovation Center of the Federal Reserve Bank of New York: https://lnkd.in/dFs8vXKb #payments #regulation #risk #liquiditymanagement #risk #dlt #smartcontracts #tokenization Prasanna Lohar Sudin Baraokar Nafis Alam Sam Boboev Panagiotis Kriaris Nicolas Pinto

As widely expected, the Fed kept rates unchanged at today’s meeting. The main event, however, was the release of new economic projections from FOMC participations, which sheds light on decisions in future meetings – and indicates the Fed remains vigilant against the threat of a renewed bout of high inflation. Some takeaways: ◾ The FOMC projection for Q4 2025 core PCE inflation rate (YoY) has risen to 3.1%, up from 2.8% previously. Chair Powell also stated tariffs are still “likely to push up prices,” an assessment we agree with. ◾ The FOMC projections for real GDP growth in Q4 2025 (YoY) dropped to 1.4% from 1.7%. But while the Fed assesses growth as slowing, it seems to view this primarily as a negative supply shock (from the tariffs). In principle, while the Fed should respond to a negative demand shock by easing monetary policy, that’s not the case for a negative supply shock. ◾ The median FOMC member continues to expect the federal-funds rate to be cut by 50 basis points in 2025 to a target range of 3.75-4.00%. But expectations for the federal-funds rate at year-end 2026 and 2027 have risen to 3.50-3.75% and 3.25-3.50% respectively, up by 25 basis points compared to the prior projections. ◾ Moreover, despite the unchanged median for 2025, 7 of 19 participants in the FOMC projections now expect no rate cut this year, up from 4 participants as of March. For now, Morningstar continues to expect two rate cuts this year. We expect the uncertainty engendered by the tariffs to constitute a significant negative demand shock, which will call for mild monetary policy easing despite an acceleration in inflation. In terms of the timing, however, it does now look more likely that the first cut will come in September, rather than July as we previously expected.

‘Turning pitch’ for monetary policy; RBI says open to OMO sales • The MPC expectedly kept the repo rate unchanged at 6.5% and retained the stance of monetary policy at ‘withdrawal of accommodation’ • The vegetables-driven spike in inflation in July-August 2023 has abated. However, elevated global yields, uneven distribution of monsoon and volatile oil prices pose an upside risk to inflation. Taking cognizance of this, the policy statement noted that monetary policy needs to remain ‘actively disinflationary’. Also, the Governor during his address stressed on the 4% inflation target, giving the policy a hawkish tone. • The MPC upped Q2FY24 projection to 6.5% from 6.2% previously and cut Q3FY24 projection to 5.6% from 5.7% in the Aug 2023 review. Projections for Q4FY24 and Q1FY25 were retained at 5.2%. On balance, FY24 inflation forecast remains unchanged at 5.4%. In a separately released Monetary Policy Report (MPR), the RBI projected CPI to average 4.5% in FY25 and 4.3% in Q4FY25 • The MPR also showed that supply shock was the predominant driver of inflation in Q2FY24, accounting for as high as 70% of the inflation during the quarter. On the other hand, policy shock (monetary tightening) and demand shock (lower aggregate demand) shaved off inflation during the quarter. This further gives credence to the MPC’s decision to stay put on rates this time. • Transmission of previous rates is still incomplete. Out of the cumulative repo hike of 250bps, weighted average lending rate on fresh loans and outstanding loans have increased by only 196bps and 112bps. However, the cumulative monetary tightening seems to have succeeded in anchoring inflation expectations as households’ inflation expectations have fallen to single-digit since the Covid pandemic. • The committee kept the full-year growth forecast unchanged at 6.5% (ICICI: 6.2%). The quarterly growth profile (6.5% in Q2, 6% in Q3 and 5.7% in Q4FY24) has also been retained. Domestic demand remains resilient, led by urban markets while industry indicators remain robust. Rising imports of capital goods and external borrowing for capex imply strong investment demand. • The liquidity conditions have seen a sizable change since the last policy. While 50% of the amount absorbed under I-CRR has been reversed, robust advance tax collections in September and active FX intervention by the RBI to support the INR resulted in a sizable deficit in system liquidity. In addition, the RBI conducted OMO sales worth ~INR 62bn in September which was an indication that more OMO sales (through auction process) are likely in the future to keep liquidity conditions tight. While the conclusion of I-CRR and month-end government spending will increase liquidity in the near term, pick-up in currency demand and OMO sales are likely to offset the impact and keep liquidity constrained • Given a more hawkish Fed and slow disinflation trajectory, the monetary easing cycle is likely to happen later than initially expected

https://lnkd.in/dgPvW449 As Governor of the National Bank of the Kyrgyz Republic, I am pleased to share my article in International Banker on “Monetary Policy Modernization in Developing Countries: Kyrgyzstan’s Experience on the Path to Financial Stability and Innovation.” In the article, I explain how, over the past decade, we have pursued a balanced and forward-looking monetary framework, shifting toward inflation-forecast targeting, strengthening the interest-rate channel, and deepening the money market. We have also prioritized financial innovation, digital payments, and consumer protection as integral parts of a resilient and inclusive financial system. Despite the global economic volatility of recent years, our monetary policy has kept inflation within target and supported economic growth — all while scaling up international reserves and promoting a stable exchange rate. The story is not only about technical reforms, but also about institutional momentum, regulatory modernization, and public trust. I invite you to read the full article and reflect on the lessons for other developing economies navigating the delicate balance between stability and innovation. #MonetaryPolicy #FinancialInnovation #CentralBanking #EconomicStability #Kyrgyzstan #DevelopmentEconomics #DigitalFinance

Japan is set to raise interest rates to the highest level in nearly 30 years... And the US inflation has cooled unexpectedly, giving the Federal Reserve room to consider rate cuts. Two very different signals — and that’s exactly what makes this moment important. For decades, Japan sat at the zero‑rate frontier, with policy rates near zero for almost 30 years and even negative until 2024. This anchored global carry trades, where investors borrowed cheaply in yen and invested in higher‑yielding assets overseas, and made the yen one of the cheapest funding currencies in the world. It wasn’t just a domestic policy choice. It became part of the global financial plumbing, quietly supporting risk assets, emerging markets, and cross‑border capital flows. That is now changing. Japan’s core inflation has stayed around ~3%, above the BOJ’s 2% target, and markets are pricing policy rates moving toward ~0.75%, the highest level since the 1990s. To put the scale in perspective, the Bank of Japan now owns roughly 50% of the JGB market. For years, very low Japanese bond yields pushed money out of Japan into global markets. If those yields start rising, some of that money stays closer to home. That alone can nudge global bond yields higher and make funding slightly more expensive, even without any sudden policy move. At the same time, US inflation has eased materially, reviving expectations of Fed cuts and easier financial conditions. For markets, this creates an uncomfortable divergence. This matters because it changes how liquidity behaves. Funding becomes less predictable. Currency volatility rises. Capital becomes more selective. Cheap money stops acting as a blanket tailwind and starts demanding discipline. For India, the picture remains relatively constructive. Domestic growth drivers are intact, balance sheets are healthier, and policy flexibility remains. But the regime shifts at the margin. Valuations matter more. Broad beta rallies become harder. Stock selection and quality start doing the heavy lifting. This isn’t a crisis. It’s a transition. Markets are moving away from free money toward priced capital. Returns don’t disappear in such phases, but they do get harder to earn. That’s the signal worth paying attention to.