FidelityNow: Ilan Kolet: Rate decision reactions

[00:00:04.337] We saw both the Bank of Canada and the Federal Reserve cut by a quarter basis

[00:00:07.273] point. Federal Reserve is now, their policy rate is now

[00:00:11.311] between 3.75 and 4, so materially higher than in Canada.

[00:00:15.648] The Bank of Canada, the overnight rate is two and a quarter percent after

[00:00:19.686] many, many successive cuts from where they peaked out.

[00:00:23.990] What I found interesting about the discussion was markets,

[00:00:28.228] I think, and investors sometimes can get ahead of themselves.

[00:00:31.031] And specifically related to the discussion in the U.S.,

[00:00:36.102] it was around really this idea that the December rate cut was a complete

[00:00:40.206] lock and fully baked in.

[00:00:41.941] And what we saw was material pushback on that.

[00:00:46.312] Again, I have a very specific framework on how I think we should be

[00:00:50.483] thinking about central bank decisions.

[00:00:52.819] Between myself, David Wolf, David Tulk, we have a combined almost

[00:00:56.823] 20 years of experience working at the Bank of Canada.

[00:00:59.859] And we have a framework on how we think about these things, which I'm happy to

[00:01:03.430] get into. But to me, this idea that we are

[00:01:07.400] definitely getting rate cuts in December is not necessarily locked

[00:01:11.604] in and it's not something we should assume.

[00:01:13.306] I remember at the start of this year, I was on a FidelityConnects, and I said

[00:01:17.377] the Federal Reserve would love to be done, meaning they would

[00:01:21.347] love keep rates sort of somewhat restricted.

[00:01:24.384] And the reason for that is there are really two variables

[00:01:28.621] that we should be thinking about when we examine a central bank decision.

[00:01:34.694] And this will take a few seconds to explain, but I think it's worth really

[00:01:37.397] digging into. So before any central bank decisions, whether it be the Bank of

[00:01:41.167] Canada or the Federal Reserve, there are loads of experts that we hear from.

[00:01:45.338] There's lots of ink spilled.

[00:01:47.307] But really, I think the way to simplify this is to think about the

[00:01:52.445] decision in terms of rates facing a central bank as

[00:01:56.483] a function of two variables.

[00:01:58.151] So handcuff yourself to two variables, inflation and unemployment,

[00:02:02.522] or inflation and the labour market in general.

[00:02:05.091] And so earlier this year, I said for the U.S., and even for the Bank of

[00:02:09.062] Canada, the Fed, the Bank of Canada would love to be done.

[00:02:12.332] And so for the Fed, reason for that is inflation was very high, inflation had

[00:02:15.969] rolled over and come down, and inflation was not yet at

[00:02:19.839] where they wanted that target inflation rate, where they wanted inflation to

[00:02:23.376] be, and so if inflation is slowly grinding down towards

[00:02:27.514] where you want it to be, you don't cut rates.

[00:02:29.816] You keep rates somewhat restrictive to push that inflation rate

[00:02:33.820] lower, inflation moves very slowly.

[00:02:36.055] And that's the first variable, inflation.

[00:02:37.857] The second variable that we need to think about, again, handcuff yourself to

[00:02:41.461] inflation and unemployment or the labour market.

[00:02:44.564] The second variable forced, I would say, forced the hand of the Federal

[00:02:48.168] Reserve, or was enough of a factor that it forced the hands of the

[00:02:52.172] Fed in September, and now again.

[00:02:54.641] And that is wobbling, as you mentioned in the beginning, and a

[00:02:58.611] slight weakening in the labour market. So the unemployment rate in the U.S. has

[00:03:01.447] drifted higher.

[00:03:03.383] Job openings have come down.

[00:03:05.218] I would say, you know, the labour markets is not flashing bright red signals.

[00:03:09.122] I mean, it's a little bit difficult now with statistical delays and a

[00:03:12.025] government shut down, but we're not flashing major

[00:03:16.262] warning signs, but there are concerns, I would say, in the U.S. labour market.

[00:03:20.533] And what that means, again, from an inflation and unemployment perspective,

[00:03:24.504] is cut rates. You're not going to be stubborn on the inflation mandate and

[00:03:30.210] run the risk of an unemployment rate pushing much higher.