The decisions Thursday by the world's two most heavyweight central banks were a reminder of the old adage that actions sometimes speak louder than words.
Just two days after a Federal Open Market Committee statement that acknowledged recent market turbulence but struck a message of calm on the broader fallout, the US central bank was forced to inject liquidity into money markets to push key short-term borrowing rates lower. Those rates had spiked after a unit of French bank BNP Paribas said it had temporarily suspended valuation and redemption in three of its asset-backed securities funds because of "complete evaporation of liquidity in certain market segments of the US securitization market." The announcement was the latest suggesting major banks are more vulnerable than was previously thought to the blowup of the US subprime mortgage market. The Fed's action followed hot on the heels of the European Central Bank's injection of some $130 billion into regional money markets overnight, as the Old Continent suffered its own credit crunch. The ECB also issued a statement noting the "tensions" in the money markets and promising it "stands ready to act to assure orderly conditions." As with the Fed, it was only a few days ago that ECB President Jean-Claude Trichet was sounding a note of cautious confidence about what he described as a repricing of risk. The gap between central bank actions and words is certainly not unbridgeable. Economists are quick to point out that a short-term liquidity fix for troubled money markets is not a sign that credit markets are about to collapse or that the pain will spread more broadly into the real economy. Still, at the very least, the action has muffled the soothing impact of the banks' recent statements. At most, the central banks' lack of foresight raises questions about how accurately policymakers are reading current events, said Tony Crescenzi, chief bond market strategist, Miller & Tabak. "What stands out most from this situation is its proximity to the Federal Reserve's meeting on Tuesday. If the Fed had even the slightest inkling that a problem of this scale might occur, its statement would have had a full tilt toward neutral rather than the partial tilt it gave," Crescenzi said. "Today's events show that either the Fed committed a large policy error on Tuesday, or that both the Fed and the ECB are themselves more in the dark on the problems that lie underneath the surface than are investors in the financial markets." | |
| ECB, US Fed Acknowledged Risks | |
| At its meeting Tuesday, the Fed kept rates at 5.25% for the ninth meeting running and said inflation pressures remained its "predominant" concern. Policymakers acknowledged that "financial markets have been volatile in recent weeks" and that, with credit conditions tightening, "downside risks to growth have increased somewhat." Yet they continued to predict moderate growth. As for the ECB, it held rates steady at 4.0% last Thursday, but in one sign of confidence, Trichet hinted strongly the bank would raise rates in September. He emphasized that "sustained economic growth" had continued in recent months. Like the Fed, the ECB acknowledged the risks, saying "we are experiencing a period of market nervousness, a period where we see volatility in markets in general and re-appreciation of risks." Trichet promised to "pay great attention" to developments. For some, central bankers' acknowledgement of greater risks was as much as could be expected of them, not least given the fact that policymakers have repeatedly warned investors over the last year that risk premiums had fallen too low. Alan Ruskin, chief international strategist at RBS Greenwich Capital in Greenwich, Conn., said that if the Fed and the ECB were meeting Thursday, they would be unlikely to dramatically rewrite their comments. "To some extent, events move on...I'm not sure they would say that many different things but they've clearly been forced to act to deal with a classic short-term liquidity crisis," he said. Dominic White, European economist at ABN Amro in London, also said there was no clear "contradiction" between what the two banks were saying and their actions Thursday. "What they've done is they've given their fundamental view of the economy and that may not necessarily always line up with what you see happen in financial markets," White said. The Fed has "to ensure financial stability. That's what it's done today and that's what's the ECB done." Still, for investors, the juxtaposition of policymaker calm and market chaos is not a happy one. In recent years, market confidence in the views and moves of policymakers has helped bring the global financial system through shocks that in the past may have toppled it - from the collapse of Long Term Capital Management to the Sept. 11 attacks. If investors start to believe central banks are either being less than fully truthful with them or are flying blind, the current market nervousness could get worse. "Unfortunately, you can't formulate policy with 20/20 hindsight," said Jason Evans, head of government bond trading at Deutsche Bank in New York. While the Fed's view of events could yet prove correct and markets settle down, Evans said "I think it's unfortunate (for the Fed) that markets have become so unruly so quickly." | |
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