Central banks around the world are raising interest rates in the most sweeping monetary tightening on record. Some economists fear they may be going too far if they don’t consider their collective impact on global demand.
According to the World Bank, the number of rate hikes announced by global central banks in July was the highest since records began in the early 1970s. On Wednesday, the Federal Reserve delivered its third 0.75 percentage point hike in as many meetings. Over the past week, their counterparts in Indonesia, Norway, the Philippines, South Africa, Sweden, Switzerland, Taiwan and the UK also hiked rates.
In addition, the magnitude of these rate hikes is larger than usual. On September 20, Sweden’s Riksbank raised its benchmark interest rate by a full percentage point. It had not raised or lowered interest rates by more than half a point since the current framework was passed in July 2002.
These central banks react to high inflation almost everywhere. According to the Organization for Economic Co-operation and Development, inflation in the group of top 20 economies was 9.2% in July, twice the year-earlier level. Higher interest rates dampen demand for goods and services, giving households and businesses confidence that inflation will fall in the coming year.
Federal Reserve Chair Jerome Powell said he expects interest rates to continue to rise as the Fed battles high inflation. Photo: Kevin Lamarque/Portal
However, some fear that central banks are effectively pursuing national responses to the global problem of excessive demand and high prices. They warn that, as a group, central banks are going too far – and plunging the global economy into a deeper than necessary downturn.
“The current danger … is not so much that current and proposed policies ultimately fail to quell inflation,” Maurice Obstfeld, former chief economist at the International Monetary Fund, wrote earlier this month in a note for the Peterson Institute for International Economics, where he is a Senior Fellow. “They are going too far together and pushing the global economy into an unnecessarily harsh contraction.”
There are few signs that central banks will pause and take stock of the impact of their past rate hikes. The Fed announced on Wednesday that it is likely to raise rates by 1 percentage point to 1.25 percentage points at its next two meetings. Economists at JPMorgan expect central bankers from Canada, Mexico, Chile, Colombia, Peru, the eurozone, Hungary, Israel, Poland, Romania, Australia, New Zealand, South Korea, India, Malaysia and Thailand to rate rates at policy meetings scheduled through late September will increase at the end of October.
That’s a string of central bank firepower with few precedents. But do they all have to do so much if they are all doing the same thing?
Most economists accept that inflation in a country is not solely due to forces within that country. Global demand also affects the prices of easily tradable goods and services. With commodities like oil, this has long been evident; In 2008, a boom in China pushed up prices while the US slipped into recession. This has also been the case for manufactured goods in recent years, prices for which have been pushed up globally by disruptions in supply chains, for example in Asian ports, and increased demand from government incentives. A Fed study found that US fiscal stimulus fueled inflation in Canada and the UK
Sweden’s Riksbank, led by Governor Stefan Ingves, raised its benchmark interest rate by a full percentage point this week.
Photo: Mikael Sjoberg/Bloomberg News
However, a single central bank’s focus on matching supply and demand at the national level could be going too far, as other central banks are already weakening global demand, which is one of the drivers of national inflation. If every central bank does this, the excessive tightening around the world can be significant.
Sharing Mr Obstfeld’s concern, the World Bank warns in a report that “the cumulative impact of international spillovers from the highly synchronous tightening of monetary and fiscal policies could do more harm to growth than would be expected from a simple summation of the policy measures.” individual countries.”
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This risk could be reduced through coordination between central banks – for example, if they cut interest rates together during the global financial crisis. Likewise in 1985 when advanced economies acted together to bring down the dollar, and then again in 1987 when they acted together to prop it up.
Fed Chair Jerome Powell noted on Wednesday that central banks have coordinated rate action in the past, but it is not appropriate now because “we are in very different situations.” He added that contact between global central banks is more or less ongoing. “And it’s not about coordination, it’s about a lot of information sharing,” he said.
If coordination is not feasible, a more achievable goal might be, as the World Bank recommended, that national policymakers “consider the potential spillover effects of globally synchronous domestic policies”.
Fed Chair Jerome Powell said it is not appropriate for central banks to coordinate rate action at this time.
Photo: Drew Angerer/Getty Images
Mr Powell suggested this is already happening. Fed forecasts always take into account “political decisions – monetary policy and others [and] the economic developments in major economies that may affect the US economy,” he told reporters.
Many central banks fear that interest rate hikes will be too low given the high level of inflation. “In this environment, central banks must act vigorously,” said Isabel Schnabel, policymaker at the European Central Bank, in a speech at the end of August. “To regain and keep confidence, we need to get inflation back on target quickly.”
“An informal vote would be advantageous,” says Philipp Heimberger, an economist at the Vienna Institute for International Economic Studies. “Systematic thinking about the impact of rate hikes would have to take into account what other central banks are doing at the same time. That would be a game changer.”
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Mr Heimberger said the Fed was a key driver behind the rise in global interest rates and that it “should seriously consider the impact of its rate hike cycle on other parts of the world”.
Gilles Moëc, chief economist at insurer AXA SA, doubts that effective coordination is achievable and argues that without coordination, central banks should be more cautious when considering further rate hikes.
“Once monetary policy is in a restrictive zone, I think it becomes dangerous to mechanically ramp up at every policy meeting without taking the time to assess how the economy is responding,” Mr Moëc said. “The amount of new information between two meetings can be too small and the risk of an overreaction increases.”
write to Paul Hannon at [email protected]
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