WHY SO GREEK
EDU DDA May 23, 2025
Summary: What Australia’s central bank did Tuesday, Sweden’s repeated yesterday. They call this forward guidance, and have even invented a whole theory behind it with special cases (styled in Greek references to make them sound weighty and important). Instead, the only part which really matters is why they feel it necessary to undertake these performances. Reasons which were adequately spelled out by Canadian updates, plus a possible puzzle in American home buying - as in, not buying.
A METAPHOR FOR UNNECESARILY COMPLICATED NONSENSE.
Though nothing is confirmed or ever is until the action takes place, we can go ahead and count another previously standing central bank in on the renewed rate racing. Tuesday was Australia’s chance, and, as discussed yesterday, it was a transparent shot at what central bankers call “forward guidance.” Basically, officials believe that the mere possibility of rate cutting “accommodation” will, via the same inflation-type psychology, be an act of accommodation itself.
It seems to make sense so long as you don’t ever examine the evidence. If lower interest rates are stimulus and enough people believe that to be true, then a central bank which “guides” the market and economy toward future rates by either promising the or just a heightened chance for action should create beneficial effects immediately.
Forward guidance goes even further than that, as discussed in then next section. I will warn you, in many ways it was a waste of time writing and may be a waste of your time reading. The only reason it is included is because one of the goals of EDU’s DDA is to help you understand what policymakers themselves believe and therefore what gets spit out as conventional mainstream wisdom.
The theories behind the empty bowl.
The problem, one of a dozen, is that hardly anyone believes outside the Ivory Tower econometrics models. Great for classrooms and modeling, a real-world dud – another.
So, Australia’s Bullock just happened to tell the media that RBA officials discussed a fifty in what was a blatant act of forward guidance. If policymakers were indeed confident, there would never have been any mention whatsoever, no one would have been the wiser. The fact they wanted everyone to know is the key.
Yesterday, Sweden’s Riksbank followed. When we last left the world’s oldest central bank it was adamant its rate cutting days were done; fini (or whatever in Swedish). Even the forecasts showed a solid 2.25% extending out into the distant future, or at least beyond the prediction horizon. Now, all of a sudden, like RBA, Riskbank speakers are speaking more about another rate cut and one which could come as soon as its next meeting next month.
Even Economists are more and more penciling this in as is clearly intended, more forward guidance.
Why?
Near-term prospects aren’t nearly so hot as re-risking markets see them. One by one, central bank “inflation” biases are being superseded by worries there’s a looming hole in the global economy, an air pocket owing to a combination of pre-existing weakness (the forgot-how-grow which started the rate cutting to begin with), payback for so much worldwide front-loading, then whatever transitory tariff price shock to make even more of the economy unaffordable to everyone.
Rate cuts aren’t going to solve anything, let alone rate cut promises, but forward guidance does contribute some confirmation as to this downside and how it really is getting serious.
To that end, Canada’s prospective recession may have already started while the US housing market is behaving strangely and may be issuing its own forward guidance, though this doesn’t mean interest rates.
ολοκληρωτικές ανοησίες
You may or may not know much about forward guidance, but it has been of constant attention on the minds of policymakers since around 2012-13. Further, policymakers themselves don’t seem to be able to define it, and because of it they can’t seem to solve the bond market puzzle. In orthodox economics, forward guidance is either “Delphic” or “Odyssean.” As usual, there is a great deal of needless complication associated with either, for everything must be turned into a regression model or else Economists are lost in common sense.
Delphic forward guidance is of the kind practiced by central banks before the 2008 global break. Pioneered in New Zealand, the central bank plainly states what it is thinking about the state of the world and therefore what guides the expected path of monetary policy. The problem with the “Delphic” version is in the more extreme policy cases, as much of the world found out before the GFC was ever finished.
If the central bank, for example, believes that its policies will be effective and maybe sharply so, then Delphic forward guidance can potentially thwart the policy before it actually becomes effective. In other words, if bond market participants get wind of these positive central bank expectations, bonds may selloff in “reflation”, thus raising market rates before the “stimulus” of low rates has a chance of doing its work.
THE RISE IN LT YIELDS DIDN’T CHOKE OFF THE 2013 RECOVERY, THEY WERE BRIEFLY AGREEING WITHT WHICH IS WHY SWAP SPREADS TURNED POSITIVE RIGHT THEN FOR THE FIRST AND ONLY TIME SINCE 2009.
Or, exactly what happened in response to early QEs. Rates rose on more positive reactions, mere hope. Except, when that hope proved premature because, you know, QE doesn’t actually work, rather than admit the truth central bankers naturally blamed those rising interest rates as “choking off” the recovery before it got started even though in reality rising yields were from the marketplace actually giving “emergency policies” the short-run benefit of the doubt.
The official solution to this “glitch” is “Odyssean” forward guidance. Here, the central bank may recognize the potential opposing problem of Delphic guidance and overcome it by promising to keep up with “stimulus” even if the effects of “stimulus” start to become apparent. This was very clearly practiced in 2013 by the Fed who unusually committed to QE3, which was then thought open ended, tying it to the unemployment rate so as to keep the bond market from anticipating too much its future success.
In other words, no need for rates to rise because, if you remember, the Fed and other central banks kept promising to keep rates lower for longer no matter what. The point was to try to circumvent rising rates officials saw as restrictive which was no longer a possibility because from then on rates stayed lower seeing the Silent Depression failure.
The problem, of course, with all forward guidance is that it is as much based on a single assumption that has actually been disproven over time, time and again. Economists can’t figure out why interest rates went lower than when QE3 was unleashed, and in fact UST rates in particular declined more after the QE’s than with it. To try to rectify this philosophical ground with reality, as it relates to Odyssean versus Delphic forward guidance there has been raised (going back as far as 2012) an Event-Study Activity Puzzle to sort out interest rate effects.
While it sounds a lot like something published in The New York Times next to its crossword, the overly complicated framework is really nothing more than Economists saying “we don’t get bonds, like at all.” The reason for it is surprisingly (to economists) simple, and requires literally none of the math to appreciate.
All views of forward guidance presume that the Federal Reserve or whatever central bank has knowledge of future events that are relevant to bond market participants. In the case of Delphic forward guidance, that would be materially non-public information which markets are theorized as desperate to get their hands on; such as unpublished economic forecasts of inflation, output, and monetary policy. Thus, markets under this view are trying to read the “tea leaves” of the actual and limited policy statements so as to generalize more specifically what they might mean about the future.
In a study published by the Federal Reserve Bank of Chicago, authors Campbell, Fisher, Justiniano, and Melosi take up the task of trying to attribute to Odyssean forward guidance the answer to their “puzzle”:
Our work resolves the event-study activity puzzle by demonstrating that the FOMC moves market expectations of future interest rates in part by transmitting its views of future macroeconomic fundamentals. When these are strong, private forecasters revise their projections accordingly, while market participants mark up their expectations of future interest rates.
This builds on work the same authors put together in October 2016, after these authors first described this puzzle in 2012.
Throughout 2009 and into mid 2010, financial market prices indicated that the FOMC would raise interest rates sooner than its pre crisis interest rate rule would have prescribed, and from mid 2010 through mid 2011 financial market participants essentially believed that the FOMC would deviate little from this rule. Our model indicates these expectations of tighter-than-usual policy cost the US economy a decline in the output gap’s trough from -4 percent to -6 percent. At its August 2011 meeting, the FOMC became more specific about its forward guidance, forecasting that the policy rate would remain at its effective lower bound “at least through mid-2013.” Thereafter, interest rate futures began to indicate that the FOMC’s policy accommodation would last substantially longer; and we estimate that this contributed to a much more rapid recovery in the output gap than would have occurred otherwise
They were attempting to explain low bond market rates after 2011 as due to a positive shift toward Odyssean forward guidance. Furthermore, they are making the claim that it was wildly successful! In order to make this assertion, however, the bond market in 2009, 2010, and the first half of 2011 must have been driven by Delphic rather than Odyssean forward guidance; meaning that the change in the guidance regime starting in August 2011 was responsible for the history of especially UST rates – rather than, of course, the massive liquidity contradiction that “unexpectedly” erupted at that very moment.
This is just like term premiums in that Economists are desperate to rewrite the history of market interest rates in ways that sound like they agree with central bank philosophy and actions. Instead, Occam’s Razor applies; what’s more likely, that psychology over central bank talking supposedly resting on a belief central bankers are near-omniscient even after by then two massive, global monetary disruptions, or that markets were simply ignoring central banks to focus on the, you know, massive monetary disruptions and more so their aftermath?
Again, this is all disabused by recognizing the simple assumption at the center of all kinds of forward guidance, Delphic, Odyssean, or whatever next might have to be made up to reconcile further to reality. It all assumes that central banks are correct, and that their forecasts are valid. If, however, the bond market comes to realize what central bankers themselves started to admit (persistently optimistic) long ago then low rates especially after 2011 were not due to some Rube Goldberg tortured pretzel of mathematical logic but rather simply traded based on increasing doubts over the efficacy of both monetary policy as well as policymakers’ dubious forecasting abilities.
BoC under pressure
Canadian waffles were served a CPI this week which temporarily saw LT bond rates worldwide rise under the uncertainty premium created by nothing more than central bank inflation biases. At some point, that will be more difficult to maintain since the real economy is less to be inflationary and more coming up recessionary.
The Bank of Canada has tried its best to stick with the Fed even after deviating sharply from it last year. BoC was at the forefront of rate-cutting long before tariffs since, prior to the artificial tariff-induced distortions to end last year, weakness in the Canadian economy was becoming impossible to dismiss. Job growth stalled, unemployment shot up, the country filled with appropriate pessimism.
Tiff Macklem’s group, however, regrouped this year to align more closely with Chair Powell in his thinking on the possible “inflationary” effects of trade wars. This, too, rests on bad psychology, which is why the reappearance of the inflation bias at these central banks is already proving to be as transitory as any looming price shock will become.
The Canadians reported more bad news in retail sales. While spending rebounded in both March (updated estimate) and April (very preliminary), it wasn’t actual strength. Retail sales had already contracted in the first two months of the year, then the only reason sales picked up two months ago was splurging on cars ahead of price increases.
Sales of autos in Canada soared nearly 5% in March alone (nominal sales). Excluding those, retail sales of everything else fell sharply, down 0.7% on the month, showing just how much Canadians have been struggling, especially when added to lower sales already in January and February.
These results add to poor payroll and unemployment estimates through April which demonstrably point to recession-like conditions hitting even before payback and the tariff shock. Like Japan, Canada is facing the immediate prospects for a “technical recession”:
Economists surveyed by Bloomberg say output will shrink 1% on an annualized basis in the second quarter and 0.1% in the third quarter, a technical recession.
Exports are tumbling — they will drop 7.4% on an annualized basis in the current quarter, forecasters estimate, after President Donald Trump’s tariff threats caused US importers to pull forward their shipments earlier in the year. But exporters should be able stage a modest recovery, starting later in the year.
These forecasters have lowered their full-year GDP numbers to an average of 1.2% which, as I pointed out before, is solidly in historical recession territory (the 1.3% threshold I showed for VS GDP applies to more than specifically the American economy; in some places, the borderline is even higher).
BoC would – and almost certainly will – join the RBA and Riskbank in Odyssean forward guidance if not for the last core CPI reading. But as prospects in Canada dim, and the global hole in demand more clearly emerges, the warning here applies more broadly, too.
Housing act
The main counterpoint to apocalyptic consumer sentiment especially here in the US is that it is purely emotion with nothing backing it. Americans may be increasingly and darkly pessimistic, but they aren’t acting on it so the disastrous numbers can be ignored as outliers, or so we hear.
Au contraire.
We’ve chronicled several datapoints which indicate consumers are indeed putting their money where their mouth had been when it was surveyed. Consumer spending was weak just like in Canada, with a big drop in January (retail sales plus PCE Spending) and little return in February. Also like their Canadian neighbors, Americans bought a ton of autos in March to mask a rather mediocre rebound in March.
More to the cyclical point, consumer credit has been unusually weak, and on both sides of the debt spectrum. Revolving balances have been largely flat to lower for months, and that didn’t change in Q1. Worse, non-revolving credit (factoring for student loans issued by the federal govt) has been weak, too, beyond what is typical for seasonality.
Now maybe housing, too.
The narrative surrounding American real estate was that rate hikes had been the reason for depressing activity therefore rate cuts would undo all that and unleash pent-up demand. Nope. That hasn’t been the case, either for existing sales which have stuck at housing-bust low levels of transaction volumes or new homes which developers have had to constantly discount prices in order to keep volumes merely steady.
Initially, the lethargy in resales was attributed to mortgage rates holding down available-for-sale inventories – in short, home owners with 2010s mortgages were not going to resell and move out if only to reborrow at significantly higher rates. As such, for-sale inventories dropped sharply and remained low.
More recently, though, inventories have shot up even though rates haven’t materially moved. And yet, transactions continue to be stuck at bust levels. It can’t be unfavorable mortgage rate trade-offs any longer, or that’s no longer the sole dominant factor.
While we don’t know for sure, on the demand side it seems as though the macroeconomy (the dreaded “uncertainty”) has kept a lid on real estate. Consumers may be confirming their pessimism in what they aren’t doing here.
On the other side, the material rise in home sellers seems to point to deteriorating financial conditions, or perceptions of such. Households fearing they’ll be squeezed by job losses and higher nondiscretionary costs seem to be looking to sell the one asset they have which could help cushion any macro blow ahead (also lowering nondiscretionary household costs).
As a result, the median resale price gain has slowed to below 2% y/y, with sellers coming into more balance with the few buyers. And if so, it isn’t just dour sentiment, more circumstantial evidence to pile on the mountain.
Central bankers may be irrational, but it’s only to a point. Their conversions from inflation bias to rate cutting and even forward guidance where applicable show the dividing line between irrational tariff price fears and worries the economic conditions might, if they haven’t already, tilt way too far toward unemployment risks and negative GDPs (plural).
We’ve seen this over and over the past eighteen months, how slowly, incrementally, everything has moved sometimes imperceptibly in this direction. Tariffs did provide a detour last year, but pulling forward demand was always going to make the downside worse. Officials would never admit as much, of course, since that would amount to some other Greek no one, especially them, truly understand.
