Terminal-Rate Pricing Doesn't Look So Terminal In Europe

By Ven Ram and Heather Burke, Bloomberg Markets Live reporters and strategists

Interest-rate traders reckon that central banks in the US, euro zone and the UK are more or less done raising rates in this cycle. They may be: a) possibly right in the US; b) less so in the euro zone; and c) likely wrong in the UK.

The Bank of England decided to pause its tightening last month having raised rates by 515 basis points in this cycle. While on the face of it, that seems like a staggering amount of tightening, it’s not a number that should be looked at in isolation. Rather, it is where the benchmark rate is in relation to inflation and whether that rate is restrictive enough.

On that front, the BOE may be skating on thin ice (witness the UK’s still-sticky wages). Both in terms of realized and projected prices in the economy, its real policy rate is negative. Which is why the BOE’s chief economist, Huw Pill, remarked Monday:

• *BOE’S PILL: PERSISTENT INFLATION REQUIRES PERSISTENT RESPONSE
• *BOE’S PILL: FALLING INFLATION NOT ENOUGH TO SAY JOB IS DONE

Given that its real policy rate is negative, the BOE’s benchmark — despite being the highest in years — isn’t really posing much of a drag on inflation. Of course, it’s possible that inflation crumbles on its own from here toward 2%, but it seems unlikely.

The European Central Bank is in a better position, given that it has a buffer of some 80 basis points by way of a real policy rate. That margin may be sufficient on a good day, but is by no means as compelling as the Fed’s 290 basis points.

Earlier this morning, the Reserve Bank of Australia ruffled the markets with this modified guidance from its meeting minutes:

“In reaching their decision, members noted that some further tightening of policy may be required should inflation prove more persistent than expected. The Board has a low tolerance for a slower return of inflation to target than currently expected.”

Which is why, even if the Fed is done raising rates, the rest of the global central banks may not be.