Eoin Treacy's view Fullermoney has often stated that "with stock markets and commodities monetary policy trumps most other factors most of the time". The response to the credit crisis was dominated by an unprecedented drive towards monetary accommodation, with central banks globally lowering rates simultaneously. This time last year only a few countries had embarked on the path to normalising rates but that number has increased as the year progressed with higher growth economies in Asia and commodity producing Latin America leading the way. Countries most overburdened with debt have been slow to raise rates from record low levels because of doubts that growth will be self sustaining.

2010 has been dominated by the divergence between the economic performance of the USA, UK and peripheral Eurozone on the one hand compared to much of Asia and Latin America on the other. There is now also a clear divergence between the monetary accommodation offered by the USA, UK and Europe versus that on offer in much of Asia. The following charts are approximations of the sovereign yield curve and subtract the 2yr yield from the 10yr.

An inverted US yield curve (when the 2yr yield is greater than the 10yr or below zero on the spread chart) has been a reliable lead indicator for recessions over the last 30 years. The last time the spread dropped below zero was in 2006, offering a substantial lead on the economic deterioration that was to follow. Right now, the spread is close to record highs of 275 basis points suggesting that monetary policy remains extraordinarily accommodative. The Eurozone and UK spreads are also both close to historic highs. No one expects such wide spreads to persist indefinitely but a return to an inverted position is still an outside possibility at this stage.

Similar spreads for Switzerland, Australia and Canada indicate that at least medium-term peaks have been reached and that the respective economies are on the path to policy normalisation. This divergence has led to significant upward pressure on their respective currencies. Widening interest rate differentials on the Australian and Canadian Dollars have been additional factors.

We do not have the same amount of back history for India and China, but both have moved further on the path to policy normalisation and even tightening than the above countries. High growth rates in tandem with higher commodity prices, particularly for food, are necessitating a more aggressive drive towards policy tightening in these countries.

Accommodative monetary policy in much of the so-called developed world continues to provide abundant liquidity for those seeking a higher yield or outsized return in the global carry trade. The US Dollar, Euro and British Pound are all currently viable carry trade currencies because of their record low interest rates and the comparative weakness of their respective currencies. The viability of this funding mechanism ensures that the excess liquidity produced to support these economies finds its way to other areas of the world offering a more attractive return. Brazil has been the most high profile advocate of some form of capital control but other countries are also attempting to stem the tide of inward investment. However, this is unlikely to defuse the increased interest in higher growth economies and accommodative monetary conditions in much of the world are likely to remain a tailwind for 'risk assets' in 2011.