Stimulus ‘Pandexit’ Is Next Challenge as Recovery Quickens
Central banks and governments were quick to buttress the world economy as the Covid-19 pandemic erupted. The bigger challenge will be weaning it off the unprecedented support they’ve deployed, according to the Bank for International Settlements.
As economies rebound, officials will need to enact more targeted fiscal measures to preserve policy space, the Basel-based institution said in its annual report released Tuesday, alongside a speech entitled “Central Banks Facing Pandexit Challenges.”
In light of the pick-up in consumer price pressures -- which are probably temporary -- policy makers will also need to strike a balance between reassuring markets they’re willing to support growth and showing they’re prepared to fight inflation.
“Monetary policy will have to be flexible and prudent,” Agustin Carstens, general manager of the BIS and former governor of the Mexican central bank, said in the speech. “Accommodative policies are still needed, although the recovery could be fast. Careful communication will be at a premium to smooth the ride.”
Central banks around the world are starting to rein in the largess of the past 16 months as the recovery takes hold, albeit unevenly.
The Federal Reserve is gradually approaching the moment when it reduces support, with counterparts in the U.K., Canada, Norway, Sweden, South Korea and New Zealand among those charting a course toward a pullback. Mexico, Hungary and the Czech Republic raised interest rates last week, following hikes in 2021 from Brazil, Turkey and Russia.
“What is key is that central banks have to be very watchful, in particular advanced economy central banks, in looking at the performance of inflation expectations,” Carstens told Bloomberg Television’s Guy Johnson and Alix Steel in an interview.
“They should be very watchful” to ensure such expectations don’t become de-anchored, he said. “So far we haven’t seen that, and that is a good omen.”
With a record of urging policy makers to control ballooning asset prices, the BIS noted that house prices had risen more steeply during the pandemic than fundamentals would suggest, increasing the sector’s vulnerability if borrowing costs rise.
The BIS, a forum for central banks, highlighted other challenges, both short- and longer-term, including the risk of rising corporate insolvencies and the need for regulators to ensure banks keep lending to businesses without taking on too much risk.
Changing demand patterns, as more people choose to work from home permanently, as well as fine-tuning policy guidance so that investors don’t just focus on diary events, will present further challenges, the BIS said.
To prepare for future crises, officials will eventually need to restore their room to maneuver on both fiscal and monetary policy. Rising pressure on central banks to keep interest rates low to help governments manage their strained finances may complicate that task, according to the BIS.
If interest rates return to the levels of the 1990s, debt-service costs could exceed wartime highs, it said.
“Tasks for the longer term center on rebuilding safety margins and the interactions between monetary and fiscal policy,” Carstens said. “It is essential to put public finances on a sustainable path and preserve central bank independence.”
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