Hawkish and Dovish – different directions

Usually, the Presidents of the Central Banks and the members of their committees have a position as to what monetary policy to follow. These positions can be divided into two directions: hawkish and dovish. The terms refer to different views of how monetary policies should influence the economy. If you are not already aware of what these terms mean we advise you to read a previous article, What is a Central Bank.

Motivations

When a Central Bank is said to be dovish it doesn’t mean that it has a static monetary policy, it can vary and change. Among many economic indicators, it can be said that the ones that motivate this volatility of directions are the CPI, and the unemployment rate.

  • CPI – Consumer price index is an indicator that measures the change in the average price of a set of goods and services in an economy. In other words, it measures inflation in an economy.
  • Unemployment rate – This indicator is simpler to understand. It measures the percentage of the population currently employed in a country or region. As a rule, one can deduce that the more people employed in an economy, the better off that economy is.

How to identify

Financial markets are sensitive to public statements by central bankers. Thus, they end up reacting in a very expressive way, which is reflected in their movements in upward or downward movements.

A current example of dovish postures is happening with most Central Banks. Motivated by the pandemic they have implemented quite a few economic support tools. This behavior has in turn triggered hawkish pressures, i.e. there is a greater willingness to decrease economic stimulus and raise interest rates. This cycle occurs thanks to a gradual economic improvement that has been gaining ground.

The discourse signals that point the directions for the new measures can be easily recognized.

  • A discourse in which terms such as “Rising inflation; Rising interest rates; Economic improvement; Reduction of economic stimulus” prevail clearly reflects a hawkish stance.
  • On the other hand, expressions such as “Low inflation, or deflation; Lower interest rates; Weak economic growth, or even recession; Start or increase of economic stimulus programs” clearly report a dovish attitude.

Conclusion

The central bank’s primary mission is to achieve price stability and economic flourishing. The directions they take to fulfill it can be grouped into dovish and hawkish attitudes.

The indicators that characterize them are the positioning toward inflation, interest rates, and economic stimulus and support tools. These are easily ascertained through the usual communications of the Central Bank board members.

Therefore, a good part of the analysis and attempt to predict financial market behavior consists of proactively paying attention to the press and the frequently issued official documents.

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