It is a commonly accepted belief that Central Banks are in control of a country’s economy, and that one of the most powerful levers they have at their disposal to warm up or cool down the economy…is interest rates.

Well, this might come as a shock – but Central Banks are not in control of interest rates. – the market is. The market has both historically and will in future dictate to Central Banks what interest rates will be.


So was I, until I saw the facts presented graphically.

Let’s start with the biggest– the United States, and the most powerful central bank – the Federal Reserve Bank.

Below is a chart depicting the change in the Fed’s target rate (in red) and the 3-month Treasury Bill Yield (average weekly). This yield is set by the market – the rate at which the market is prepared to lend money to the government.

The Fed sets interests rates - or does the market?

As we can see from the above Chart, which dates back to 1998, the change in the Fed’s rate has always followed the change in the yield on 3-month Treasury Bills.

When market rates have risen, the Fed has been forced to raise rates, when they have peaked and start falling, the Fed has dropped rates, and has had to follow the market all the way down.

And as can be seen, when the Fed dropped rates to practically zero in December 2008, guess what? The market had already told them this needed to be done by bidding T-bill yields to zero.

And how has the Fed managed to keep rates at this level for so long since?

The market has dictated this, by continuing to be happy to lend money to the US government at close to zero!

OK, while this is clearly the case in the US, but what about elsewhere? What about right here at home? Surely the Reserve Bank is in control here? Surely it dictates interest rates?

Let’s take a look at the same data for the SA market – the 3-month Treasury Bill yield against the Repo rate.

Does the Reserve Bank set interests rates - or does the market?

Hey presto! – we have almost exactly the same picture!

The above Chart shows the same pattern, with the Reserve Bank merely following the market, habitually adjusting the Repo rate in line with what the market has already done in determining the yield on the 3 month Treasury bill auction.

Pretty revealing stuff, isn’t it!?

And a powerfully simple tool in predicting future interest rate moves – merely look at the present 3 month T-bill yield!

So with the latest rate decision in July, after days of deliberation, discussion and consideration of all the factors at hand, Governor Gill Marcus announced they had decided to maintain the Repo rate to 5.00%...

…which is just what the market had been telling her to do for weeks prior!

This “revelation” is fully in line with the Elliott Wave Principle – mass social mood drives markets and the economy, and that there is nothing that any government can do about it.

In fact, they are almost always late (sometimes the last) in reacting to it, as we have seen time and time again...

As always, would appreciate your feedback and comments.

To your success~

James Paynter

    5 replies to "Central Banks Set Interest Rates – Or Do They?"

    • Doug Harris

      Hello James, I have just read an article in Money Week a British publication in which they declare that the impending rise in interest rates is going to destroy Britain because of their impossible debt situation --
      My understanding is that this will obviously affect Britain's exchange rate and cause it to weaken. In the light of your analysis of the Rand v Pound which suggests further weakness in the Rand - then the situation must be dire if the UK is bad. Unless it is about timing in which case one should convert Pounds to Rands at an appropriate future date before the Pound crashes and the Rand recovers.

      • James

        Hi Doug, thanks for the comment. I had read the article, which is well-researched, and very much in line with the what we discussed in our December 2011 Rand & Sense newsletter

        The debt problem is not limited to any one country - it is a global bubble and Central Banks trying to keep it inflated through adding more debt in the hopes you can pay it back in future is only delaying and increasing the eventual pain - see a past blog post on the subject. The trigger will be rising interest rates, which is when the market loses faith in governments' ability to repay. Our long term forecast has been for the Rand to weaken against the Pound, but not as much as against the Dollar. And yes, often timing is everything in the forex market.

    • colin

      Interesting stuff and to support your exit statement about the government always being late, look at the beginning of the SA chart, the market had started its decline in 1999 and the SARb only responded in 2001........ So when is the market due for a rise again, surely thats the million dollar question?

      • James

        Hi Colin, quite right in your observation ... in SARB's favour they seem to have been reacting much sooner in recent years. When will rates rise again? A good question. When the market reach es a point when they aren't prepared to lend at these rates any longer...perhaps we need to do an Elliott Wave analysis on this...

    • […] you may remember how we showed that Central Banks don't set interest rates - the market does (see our blog article here). The one indicator we have found to be the most accurate is 3-month Treasury Bills, which had […]

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