BlackRock Investment Institute

Macro insights

Financial conditions still supportive

We expect central banks to maintain their extremely easy policy stance, despite the prospect of an accelerated activity restart later this year. The Fed and European Central Bank have reiterated their commitment to maintaining monetary policy support until inflation rises meaningfully toward targets. Yet we expect a more muted reaction in policy rates even if inflation expectations continue their climb. Consequently, financial conditions are likely to stay supportive of growth, as shown in the chart below.

Easy financial conditions
BlackRock Financial Conditions Index (FCI), 2019-2021

BlackRock Financial Conditions Index

Source: BlackRock Investment Institute, Jan 2021. The financial conditions indicator (FCI) shows the implied rate of GDP based on its historical relationship with our growth GPS. The BlackRock Growth GPS shows where the 12-month forward consensus GDP forecast may stand in three months' time. The FCI inputs include policy rates, bond yields, corporate bond spreads, equity market valuations and exchange rates.

Fed expectations for a rise in inflation have typically gone hand in hand with a rise in the projected policy rate. Yet the policy rate has become less sensitive to changes in the inflation outlook – a trend we expect to be cemented by the Fed’s shift in its policy framework to allow inflation overshoots to make up for past undershoots.

The bottom line: In the new nominal environment, inflation can rise and even materially overshoot its target. Yet we will likely see a far smaller rise in policy rates and nominal bond yields than in the past.

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