After the latest round of monetary policy statements, the forex scene was abuzz with the term forward guidance and what it implies for forex trading. Simply put, this is all about the public announcement of what the central bank plans to do with monetary policy and interest rates for the foreseeable future.
In this week's Bank of England monetary policy statement, new BOE Governor Mark Carney stated that the markets shouldn't expect an interest rate hike until the middle of 2015. Meanwhile, European Central Bank Chairman Mario Draghi said that interest rates in the euro zone will remain low for an extended period.
The US Federal Reserve has been practicing this kind of communication strategy for quite some time already. Recall that Fed Chairman Bernanke has been saying that interest rates will kept at their record lows for an extended period time back when the US economy needed stimulus to recover from the recession. Recently, Bernanke continues to communicate the central bank's plans to the markets by saying that the open-ended asset purchase program will be tapered by the end of the year and possibly ended by the middle of next year.
Central bank policymakers implement this kind of communication strategy for two main reasons. One, they want to keep volatility in the local bond market contained. Speculations about interest rates often cause spikes in bond yields, which puts upward pressure on borrowing costs. Giving a specific timeline for keeping rates low calms those speculations down and results in a more stable yield curve. Two, policymakers can make the most of their monetary policy easing program without having to adjust interest rates or boost liquidity. In announcing how long they plan to keep rates low, they are able to influence lending rates among banks and financial institutions for the foreseeable future.
As a result, market watchers are now more aware of which central banks are dovish and which ones aren't. In particular, the BOE and ECB have just emerged as very dovish central banks in comparison to the Fed, which is looking to reduce stimulus soon. With that, forex traders could spot cleaner trends on GBP/USD and EUR/USD.
In this week's Bank of England monetary policy statement, new BOE Governor Mark Carney stated that the markets shouldn't expect an interest rate hike until the middle of 2015. Meanwhile, European Central Bank Chairman Mario Draghi said that interest rates in the euro zone will remain low for an extended period.
The US Federal Reserve has been practicing this kind of communication strategy for quite some time already. Recall that Fed Chairman Bernanke has been saying that interest rates will kept at their record lows for an extended period time back when the US economy needed stimulus to recover from the recession. Recently, Bernanke continues to communicate the central bank's plans to the markets by saying that the open-ended asset purchase program will be tapered by the end of the year and possibly ended by the middle of next year.
Central bank policymakers implement this kind of communication strategy for two main reasons. One, they want to keep volatility in the local bond market contained. Speculations about interest rates often cause spikes in bond yields, which puts upward pressure on borrowing costs. Giving a specific timeline for keeping rates low calms those speculations down and results in a more stable yield curve. Two, policymakers can make the most of their monetary policy easing program without having to adjust interest rates or boost liquidity. In announcing how long they plan to keep rates low, they are able to influence lending rates among banks and financial institutions for the foreseeable future.
As a result, market watchers are now more aware of which central banks are dovish and which ones aren't. In particular, the BOE and ECB have just emerged as very dovish central banks in comparison to the Fed, which is looking to reduce stimulus soon. With that, forex traders could spot cleaner trends on GBP/USD and EUR/USD.
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