A tale of two different Central Banks....

The Federal Reserve is doing everything it can to avoid the US economy falling into a serious recession. Last week it made an emergency 75 basis points cut in interest rates and now it has followed this up with a further cut of 50 basis points in the key Federal Funds target rate. This total of a 125 basis point easing in monetary policy is as dramatic as any action the Fed has taken since the start of the 1980s. This perfectly demonstrates that the Fed remains primarily focused on heading off any sharp slowdown in the US Economy. Without a formal inflation target it is much less concerned about the risk of any rise in consumer prices caused in particular by the continued high level of energy prices. As a result of these actions short-term interest rates in the US are now down to just 3%.

In sharp contrast the Repo Rate is still at 5.5% in the UK. All eyes will be on the UK's Monetary Policy Committee which meets next Thursday (7th February). There is a widespread expectation that we will see at least a 25 basis points reduction in UK short-term interest rates. The scope for further monetary policy easing is restricted by the continued signs of inflationary pressure especially in energy prices. Unlike the Fed, the Bank of England's primary objective is to keep annual inflation at the 2% target level. With this in mind we should not expect to see any dramatic easing in UK interest rates until there is much clearer evidence that the economy is heading into a sharp slowdown. Against this background we should continue to see a sharp divergence in interest rate policy between these two famous Central Banks. The Fed will keep watching the state of the labour market as it worries about a slowing US economy. At the same time the Bank of England will be keeping a close eye on the latest Consumer price inflation data.