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    Home»Kuo’s Smart Take»Smart Thought Of The Week: Tightening
    Kuo’s Smart Take

    Smart Thought Of The Week: Tightening

    David KuoBy David KuoMay 29, 2021Updated:May 29, 20213 Mins Read
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    It didn’t seem at all likely – just a few months ago – that any central bank of note would talk about monetary tightening. But they are now.

    Bank of Korea has said that it is preparing to pull back on the extraordinary stimulus extended during the pandemic. This is in response to accelerating inflation and a build-up of dangerous imbalances.

    The Reserve Bank of New Zealand has flagged a 0.25% rate increase to 0.5% by September 2022. Meanwhile, the Bank of England has announced a reduction in the pace of bond purchases from £4.4 billion per week to £3.4 billion per week.

    It would appear that central bankers see three things happening. The first is a gradual pick-up in economic activity. The second is rising asset prices. The third is pockets of inflationary pressures.

    We can argue the toss about whether the revival in economic activity is uniform. It clearly isn’t. We can pontificate about whether stocks are too expensive or whether inflation is just transitory or if it could be persistent. We will never know until after the event.

    The upshot, however, is that interest rates were never going to stay at or near zero forever. It was good while it lasted, though.

    It gave some indebted borrowers a chance to pay down their loans. It also gave cash-hungry businesses a chance to fix fresh borrowings at attractive interest rates.

    Meanwhile, investors were given an opportunity to enjoy some quite extraordinary returns from shares. Those who had the foresight to buy when markets were most pessimistic should have been richly rewarded.

    But all good things eventually come to an end. So, be prepared for a gradual lifting of interest rates. It is unlikely that the market will react well to that. Throwing a tantrum seems to be the usual response.

    If and when that happens, try to remember why interest rates are going up. They are rising because economic activity is improving, which should be good for businesses, especially those that have the ability to raise prices in line with inflation. Pricing power is crucial.

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    David does not own shares in any of the companies mentioned.

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