Dramas to match scenery at Jackson Hole

The annual August summits of the world’s top central bankers in Jackson Hole, Wyoming, have a dramatic mountain backdrop, but the conference titles are not exactly works of blockbuster film writers.

“Re-evaluating labour market dynamics”, the topic of this weekend’s symposium, appears deliberately dull, as if intended to keep financial markets in a summer slumber. Yet, like James Bond film titles, Jackson Hole summits have a habit of capturing the zeitgeist.

Famously, the 2005 summit was meant as an appreciation of Alan Greenspan’s years as US Federal Reserve chairman. In the event, it is remembered for propitious warnings about risks in the financial system from Raghuram Rajan, the International Monetary Fund’s then-chief economist who now heads India’s central bank.

Although academic sounding, this year’s conference subject is of wide significance. Labour market dynamics could determine the pace of monetary policy tightening in the US and UK; the latter may yet lead a rate-rising cycle.

With central banks maintaining their mesmerising grip over financial markets, much attention will be paid to any signals out of Jackson Hole. Even six years after Lehman Brothers investment bank collapsed, the challenges facing central banks have not diminished. Sensitivity is high to a possible turn in the interest rate cycle, which has driven yields to historic lows. A big risk is of fresh disruption as monetary policy makers react to widening divergences in performance between the world’s main economies.


Cycling and hiking

Despite the US’s relative robustness, expectations are for more dovishness from Janet Yellen, the Fed chairwoman, who is expected to see significant slack remaining in the country’s labour market and no need for early US monetary policy tightening, even as the Fed’s “quantitative easing”, or asset purchase programme, comes to an end.

But in the private discussions in Jackson Hole, where popular activities are hiking (as in walking, not raising interest rates) and cycling, the Fed’s dovishness may not be appreciated by the Bank of Japan and European Central Bank. Both would prefer a more hawkish Fed that led to a stronger dollar.

Haruhiko Kuroda, BoJ governor, arrives in Jackson Hole amid rising market scepticism about whether his aggressive quantitative easing will successfully drag Japan out of decades of deflation. Labour market dynamics are crucial in Japan, too. Wage growth is needed to generate inflation. While Japanese unemployment is low, demographics and productivity trends could thwart Mr Kuroda’s ambitions. A further bout of yen weakness would help.

Similarly, a weaker euro would help Mario Draghi, attending a Jackson Hole summit for the first time as ECB president. He is battling to prevent the eurozone falling into Japanese-style deflation. With eurozone second-quarter growth data last week showing the region stagnating, the ECB faces market pressure for Fed-style quantitative easing.
Escape routes

Mr Draghi, whose economics PhD is from the Massachusetts Institute of Technology, at least speaks a similar language to the Fed. Traditionally, the ECB disliked discussing “output gaps”, or measures of economic slack, which it regarded as impossible to measure in a timely fashion. But Mr Draghi happily uses such concepts when discussing ECB monetary policies.

With unemployment still at 11.5 per cent of the labour force, there is plenty of “slack” in the eurozone. But there is widespread scepticism about whether eurozone QE would work, not least from Jens Weidmann, the Bundesbank president (not attending Jackson Hole this year). A further depreciation of Europe’s single currency would offer Mr Draghi an alternative escape route.

Like cyclists, central banks are most effective when they are all travelling in the same direction, as immediately after Lehman Brothers’ collapse. Joachim Fels, international economist at Morgan Stanley, argues that the Fed, ECB and BoJ currently form an easy-money “peloton”, the group of cyclists at the front of a race who bunch together to reduce wind resistance.

Breaking away to raise interest rates is hard for smaller central banks because of the headwinds created, for instance, by an appreciating currency; a stronger pound would delay a Bank of England interest rate rise.

It might be easier for the Fed to pull apart, however, and divergences in performance between the US, eurozone and Japanese economies suggest the central bank peloton should break up. Whether that happens, and what turbulence it creates, could determine the script followed by financial markets once the central bankers have returned from their Jackson Hole weekend.


Ralph Atkins


Fonte: FT