Investment Institute
Macroeconomics

Another Mountain

  • 27 November 2023 (10 min read)

  • Taylor rules tell us the “tightening peak” was too low…but also that significant cuts could be needed in 2024
  • The Autumn Statement and the normalisation of the economic policy debate in the UK

 


After endless debates on the right timing for the peak of the monetary policy tightening across the Atlantic, the discussion is naturally shifting to the timing and magnitude of the rate cuts in 2024. Of course, many surprises can derail the best-laid plans, but we can still look at what old policy rules would tell us about the possible trajectory for the Federal Reserve and the European Central Bank.

 

The message from a Taylor rule is unambiguous: the peak in policy rate looks low in both the US and the Euro area. Now, if central banks have chosen to be prudent and refrained from pushing rates as far as what old policy rules would have suggested, this would normally call for time before taking the risk of cutting. However, a Taylor rule taking on board the forecasts for the output gap from institutions such as the CBO, the European Commission or the OECD would also call for significant cuts next year even if inflation is not quite back to target at the end of 2024, which makes the market’s current pricing not so unreasonable. Central banks’ voices are generally calling on markets not to get carried away. We are therefore more cautious in our own forecasts, but the “tide is turning”. The debate on the right shape for the monetary policy trajectory was revolving around a Matterhorn versus Table Mountain analogy. We propose to add Mount Snowdon, the highest mountain in England and Wales, to the list: any pyramidal mountain can be strenuous to climb, but if it is reasonably low, the descent can be quick. 

 

The Chancellor of the Exchequer delivered his Autumn Statement last week. Even if the “tax drag” goes on, we think that in terms of narratives it epitomises the normalisation of the British policy debate. it seems the UK is heading to next year’s election with a quite traditional “battle of manifestos” to conquer the centre ground of British public opinion, between a centre-right defending a small government agenda, and a centre-left defending public services but while keeping an eye on balancing the books. Yet, one issue may move the UK debate more towards the current US mood: the political weaponization of the fight against climate change.

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