The Jackson Hole economic symposium, which took place in Wyoming at the end of August, customarily provides an insight into the US Federal Reserve’s (Fed’s) likely course for the forthcoming year. Where the Fed moves, others tend to follow, and therefore it’s keenly monitored for indications of changes in monetary policy.

In his first Jackson Hole speech after recently becoming Fed Chair, Kevin Warsh took the opportunity to clarify his approach. He was unequivocal that price stability is the number one objective: “We must be confident that underlying inflation is moving to our objective, clearly and at sufficient speed. Otherwise, we have work to do. That's our job . . . our mandate . . . and our charge to keep.”

But while monetary policy continues to play a role in today’s markets, structural forces around the world are arguably currently more critical.

Structural forces demanding capital

Interest rates are ultimately determined by the demand and supply of capital (savings and investments). A decade ago, demand for capital was suppressed by weak growth and widespread deleveraging. Governments, households and corporates focused on debt reduction and cost management post the Global Financial Crisis (GFC). Central banks cut interest rates to the zero lower bound and purchased bonds to try to stimulate investment.

Today, it’s a different era and real estate investors are adapting accordingly. Demand for capital has risen (to fund investment in the energy transition, defence, and a renewed enthusiasm for industrial policy, and for navigating demographic change and technological advancement), while simultaneously supply has altered: governments and corporates are issuing more debt, while central banks are looking to reduce their balance sheet holdings.

Bond yields have continued to rise, while geopolitical conflict has sharpened investors’ focus on inflation. Expectations for policy rates have shifted, but this matters most at the short end of the curve. Recently, most action has been the long end, where yields have risen and curves have steepened. This is where central bank influence is more muted: underpinned by concerns over sovereign debt, investors want greater compensation for lending to governments long-term, leading to rising term premiums. While the cost of capital is moving closer to pre-GFC levels, debt burdens are higher, government deficits remain elevated and interest costs are rising. 

Managing fiscal risk

Fiscal risk has been building steadily, compounded by higher interest rates. Investors are now telling governments to regain control of fiscal policy; that means consolidation, or at least a realistic plan towards it.

In contrast to the previous decade, there may be more room for this; if fiscal policy tightens, monetary policy could, in theory, ease, allowing the private sector to offset some of the drag from a smaller public sector. However, it’s not clear how governments balance the books without raising taxes (and courting unpopularity with electorates).

In real estate, this new environment requires a proactive investment approach. Bond yields are a key benchmark for real estate values. Risk premiums are already thin, and so rising interest rates will put further upward pressure on property yields. Consequently, buying real estate now requires greater conviction on the outlook, and investors need to work harder to achieve the returns they’re used to.

Further information

Contact Oliver Salmon

Impacts: A ‘hole’ new conundrum for central bankers, and real estate markets, at Jackson Hole