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To hike or not to hike – These are the expectations for monetary policy in 2017

Janet Yellen, chair of the U.S. Federal Reserve.
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Janet Yellen, chair of the U.S. Federal Reserve.

After a year that went against all market odds, analysts foresee a diverse picture in 2017 for monetary policy across the globe.

CNBC took a look at how the U.S. Federal Reserve, the Bank of England, the European Central Bank and the Bank of Japan are expected to do and what the main risks are.

U.S. Federal Reserve: 1,2,3 hike

Donald Trump
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Donald Trump

Analysts have told CNBC that they are expecting at least two rate hikes in 2017.

"If inflation does begin to come through in 2017 we could expect to see three or four rate hikes next year – a relatively tame hiking cycle versus history but more than what the market is currently pricing in,"Alex Dryden, global market strategist at JP Morgan Asset Management, told CNBC via email.

According to Joseph LaVorgna, chief U.S. economist at Deutsche Bank, the Fed "won't be moving aggressively next year".

Janet Yellen, chair of the Federal Reserve, said earlier this month that the central bank will announce three rate hikes in 2017, provided that there are no major changes to its economic forecast.

"The main risk I see is something geopolitical," LaVorgna told CNBC over the phone regarding the Fed's stance.

Whereas JP Morgan's Dryden believes that U.S monetary policy could be affected by delays in congress to approve President-elect Trump's policies, LaVorgna is less concerned with the ability of President-elect to pass them through Congress.

European Central Bank: Tapering?

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The picture for the ECB is complicated. The euro area is not growing at a strong pace and the bank seems far from reaching its inflation target of 2 percent, at least not before 2018. At the same time, given that 2017 will have several key elections, the increasing support for populist parties could change the political landscape across the EU and force the ECB to keep a loose monetary policy stance for longer.

ECB President Mario Draghi announced early this month that the bank was extending its quantitative easing program, but it would reduce its monthly bond purchases from 80 billion euros to 60 billion euros after April of next year.

"By 'staying in the market' until end-2017 they have confirmed their commitment to maintaining a very accommodative stance even beyond 2018" Elwin de Groot, senior market economist at Rabobank, told CNBC via email.

"That said, I would still think that their 'adjustment' in the asset purchase program from April onwards gives us some indication of the steps they maybe willing to take to exit the program once the conditions for that have fallen into place," de Groot said, adding that the ECB is unlikely to raise rates before the third quarter of 2018.

Johannes Mayr, head of economic research at Bayerische Landesbank, told CNBC that the main risks for the bank's outlook are an increase in bund yields and cross-country and cross-asset spreads in Europe on the back of a rise in US bond yields and/or faster than expected return of core inflation in the euro area towards the 2% target range.

"And clearly there are also political risks. Should anti-establishment and or anti- European parties' gain power in some member states, this could lead to higher sovereign spreads as well. For now we think the risk of a member state actually leaving the Eurozone is still moderate, but the uncertainty stemming from political turbulence might weigh on growth in the absence of a Trump-like fiscal policy boost in Europe," de Groot added.

Bank of England: It all depends on growth

Bank of England governor Mark Carney poses with a new polymer five pound note on September 13, 2016 in London
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Bank of England governor Mark Carney poses with a new polymer five pound note on September 13, 2016 in London

Mark Carney was fast in loosening monetary policy following the vote to leave the European Union. He cut the benchmark rate to 0.25 percent, expanded the quantitative easing program by an extra £70 billion ($88 billion)and added corporate bonds to the bank's shopping list.

Most analysts do not expect changes throughout 2017 as economic growth remains subdued and inflation rises.

"Our broad expectations are that the MPC will keep the Bank rate on hold at 0.25 percent and maintain the QE target at £435. This is on a scenario where growth is slow but not desperately weak and where inflation rises and peaks above 3.5 percent, but begins to decline before the end of 2017," Philip Shaw, chief economist at Investec, told CNBC.

Kallum Pickering, senior U.K. economist at Berenberg, also said that "there is a low-probability the BoE will alter its stance during 2017."

"The UK is set for a mediocre year of growth (circa 1.5%) as Brexit uncertainty hangs over the economy, employment will remain at a high level while inflation rises from the sterling depreciation – this is not the sort of mix that would warrant a policy change," he said.

But ultimately it will depend on growth. If GDP surprises on the downside and demand deteriorates, the BoE could announce further easing. But if growth continued to surprise to upside in 2017 and the economy continued to expand, domestic inflationary pressure would begin to add to currency related increases in inflation.

"As it stands, (British Prime Minister Theresa) May's hard-Brexit rhetoric and lack of sufficiently strong pro-growth policies suggest supply could be damaged more than demand. Brexit could thus be inflationary in the long term and push the BoE policy rate higher. Markets may begin to ask if the BoE will shift to this stance as early as next year if the economy continues to do well in the near term," Pickering added.

Bank of Japan: On hold, but it could surprise

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"In 2017 we expect the BoJ to stay on hold," Hiroshi Ugai, managing director J.P. Morgan in Japan, told CNBC in an email.

"This is because the BoJ emphasizes the necessity of maintaining the momentum toward achieving 2 percent as a criterion for additional easing, rather than whether the timing of achieving the price stability target will be delayed, and because the Bank pays much attention to the impact of lowering the yield curve further on the financial institutions' profits and capitals."

The BoJ surprised last September when announcing a major policy change: it exchanged its monetary target for a focus on bond yields. At the time, the bank's governor reiterated that there would be further stimulus if necessary to ensure that inflation would be close to its 2 percent target.

Michael Every, head of financial markets research at Rabobank in Hong-Kong, expects the BoJ will stick with its QE policy and expand it "in other ways."

"I think it will be forced to target JGB yields at zero beyond the ten-year to try to control the curve. That will be necessary as the government will move towards larger and larger fiscal stimulus. In effect, it will be a slide towards helicopter money," Every told CNBC via email.

"The higher US rates go due to Trumpism, and the greater global protectionism we see, the faster this BoJ shift will prove necessary," he added.