It is interest-rate week. The Federal Reserve will almost certainly increase US rates again, the last rise with Janet Yellen as the Fed chair. So as usual we should look not just to the increase and the market reaction to it, but in addition to any associated hints as to further cuts in the new year.
There is a special reason for paying particular attention to the Fed meeting this week, and indeed the European Central Bank meeting next week. What we all need to know is the response of the world’s main central banks to the emerging bubble in asset prices.
Do they think we are really seeing a bubble that has to be popped? Or are they sanguine about what is happening? What do they think about bitcoin, obviously, but also what do they think about asset prices more generally?
The reason is simple. The good news is that the world is at last experiencing a coordinated expansion, with all major regions growing reasonably swiftly. (The laggard until recently has been the eurozone, but that is now picking up pace.)
The bad news is that the policies that have led to this expansion, especially ultra-easy money conditions, have created a boom in asset prices that at some stage will come to an end. We know from history that it is better not to allow bubbles to become inflated, but to let the air out slowly. Even if there is no general bubble in asset prices, a coordinated global expansion should not need near-zero interest rates to keep it going.
So what anyone who follows the markets (or simply someone trying to buy a home) is looking for are hints about financial conditions next year. One key financial condition will be the speed at which interest rates rise – actually the key condition, because they affect everything. And the most important currency still is the dollar, so US interest rates matter as much as ever.
That leads to something else. Will the Trump tax cut really boost the economy? It is supposed to, for that was the whole idea. But we don’t know enough about the way the economy responds to big policy changes to be sure.
Cutting taxes when an economy is at full capacity is not usually a good idea because it seems to result in more inflation, which then leads to higher interest rates. But maybe the US economy has more spare capacity than people think.
Anything we can possibly learn about the response of the economy is really important, for it will help give a signal for what might happen both to the economy and to financial markets next year. A sharper-than-expected rise in interest rates is one of the big risks facing markets next year.
That leads to the final thing I am looking for next week: forecasts from the professionals about 2018. As far as the world economy is concerned, there is almost universal optimism: another year of good growth. But there are two quite different views on markets, for some of the heavy hitters (such as Goldman Sachs) have become very cautious, while others think it will be another year of good returns at least for global equities if not for bonds.
My own view is this is not a time to be brave – which I shall try to explain further in the next few days.