In a detailed report by the Group of Thirty, central bankers warned that ZIRP and money printing were not sufficient to revive economic growth and risked becoming semi-permanent measures. As Reuters reports, the flow of easy money has inflated asset prices like stocks and housing in many countries but have failed to stimulate economic growth; and with growth estimates trending lower and easy money increasing company leverage, the specter of a debt trap is now haunting advanced economies. “Central banks have described their actions as ‘buying time’ for governments to finally resolve the crisis… But time is wearing on,” sending a message of “you’re on your own” to governments around the world.
The G30 begins their report rather pointedly…
Central banks worked alongside governments to address the unfolding crises during 2007–09, and their actions were a necessary and appropriate crisis management response. But central bank policies alone should not be expected to deliver sustainable economic growth. Such policies must be complemented by other policy measures implemented by governments.
At present, much remains to be done by governments, parliaments, public authorities, and the private sector to tackle policy, economic, and structural weaknesses that originate outside the control or influence of central banks. In order to contribute to sustainable economic growth, the report presumes that all other actors fulfill their responsibilities.
Roughly translated… central bankers are saying “you are now on your own.”
Central banks alone cannot be relied upon to deliver all the policies necessary to achieve macroeconomic goals. Governments must also act and use the policy-making space provided by conventional and unconventional monetary policy measures. Failure to do so would be a serious error and would risk setting the stage for further economic disturbances and imbalances in the future.
And the “need to exit” appears to be front and center for The G30 bankers…
There seems to be an almost unanimous view that monetary policy in the major AMEs will have to be normalized at some point. However, even if views differ about what precisely normal might mean, presumed dates for exit also differ due to different countries being at different points in the business cycle. There is also agreement that a danger exists of exiting too soon, thus aborting a nascent recovery, and also of exiting too late, thus encouraging some combination of higher inflation and other imbalances that could also weigh on recovery.
However, where serious disagreement arises is when it comes to discussing which danger is the greater. Those worried about too early an exit point to the example of the Federal Reserve in 1937. In contrast, those worried about too late an exit point to the inflation that followed the Fed-Treasury Accord in the late 1940s and to the inflationary surge in the early part of the 1970s.
In recent years, distortions in financial markets and the effects on EMEs have also moved much higher up the list of concerns of this latter group.
While reasonable people can disagree on such objective issues, a number of political economy factors seem to make exiting too late the more likely outcome.
First, there is great uncertainty concerning the consequences of tightening.
Second, in some cases it will in fact be clear that tightening will reveal some debts as being unserviceable, and some financial institutions as undercapitalized. Central banks will then be asked to wait until these other sectors have become more robust, which could well take a long time. The danger is that debt levels will rise with the passage of time, strengthening the arguments for still more forbearance—the debt trap discussed above.
Third, debtors will obviously resist the tightening of policy.Since governments are struggling to manage record-high sovereign debt levels, they too will be tempted to put pressure on their central banks to push back tightening as far as possible.
But delaying an ‘exit’ has costs…
Wicksell, Hayek, Koo, Minsky, and others have, over many decades, identified a variety of theoretical concerns arising from the excessive expansion of money and credit during booms. Rising inflation, investment misallocations, balance sheet overhangs, banking sector instability, and volatile international capital flows were all highlighted as threats to future economic stability. Moreover, by 2007 it was evident that these were matters of practical concern as well.
The policies followed by the major central banks since 2008, while contributing to stability in the short run and conceivably avoiding a second great depression, might also have aggravated threats to future stability. These policies have had undesirable macroeconomic side effects both in the AMEs themselves and in EMEs. Admittedly, in the latter case, the policy responses of the EMEs themselves to inflows of foreign capital have also played a contributing role.
“Capital losses would affect many investors, including banks, and the process of extend and pretend for poor loans would have to come to a stop,” the G30 report said.
With the consequences of an exit from easy money so unpredictable, the G30 said the risk was of exiting too late for fear of sparking another crisis.
And so, while ‘exit’ is seen as urgent, it is unlikely…
“Faced with uncertainty, the natural default position is the status quo,” the G30 said.
In other words more of the same… and while The G30 are careful to note the glass-half-full persepctive of the future, their “endgame” scenario of continuing weak (or even weaker) growth is troubling…
Should the global economy stay weak, or indeed should it weaken again as financial markets overshoot, we could face the possibility of debt deflation. The almost 40 percent decline in commodity prices since mid-2014 could be a precursor of such a slowdown. In this environment, risk-free rates would stay very low and there would be no exit for monetary policy.
Nevertheless, the current prices of many other financial assets would be revealed as excessive. Capital losses would affect many investors, including banks, and the process of extend and pretend for poor loans would have to come to a stop. In this scenario, for all the political economy arguments presented above, attempts might nevertheless be made to rely on monetary policy to restore demand.However, just as past efforts have failed to gain traction, renewed efforts would likely have a similar outcome. This would be particularly likely if the overhang of debt had worsened in the interval as has indeed happened over the last few years.
In such circumstances, governments would also be faced with chronic revenue shortfalls. This could lead to a worst-case situation where deflation would actually sow the seeds for an uncontrolled inflationary outcome. Governments with both large deficits and large debts must borrow to survive, but worries about debt accumulation might imply an increasing reluctance on the part of the private sector to lend to them at sustainable rates. In that case, recourse to the central bank is inevitable, and hyperinflation often the final result.
And the side effects of central bank policies during the crisis is still more worrying…
Central banks see their actions as buying time for governments to address problems that are essentially real, not monetary. However, governments have thus far not reacted as necessary. Recognizing the political difficulties of addressing these underlying problems, they prefer to believe that central bank actions will be sufficient to restore strong, stable, and balanced growth. Thus, they are strongly tempted to forebear in the pursuit of policies that might be more effective. The longer this standoff persists, the more dangerous it becomes as the undesirable side effects of current central bank policies continue to cumulate.
Which is exactly what Macquarie hinted at… the academics will be the first to note that policy escalation may be required (helicopter money).. and then policy-makers have the ivory tower to lean on when they unleash it.
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Finally, The G30 admits – it’s all an illusion…
Central bank policies since the outbreak of the crisis have made a crucial contribution to restoring the appearance of financial stability.
Nevertheless, for this appearance to become a reality, underlying problems rooted in very high debt levels must be resolved if global growth is to be more sustainably restored.
So, the bottom line, reading between the lines of this 80-page report, is that
Central Bankers know their policies have done (and will do) nothing to promote real economic improvements, are putting pressure on governments to do something (anything), admit that is unlikely (because the central bankers have always saved them before), expect extreme policy measures to become the status quo (despite admitting their failure) for fear of any asset weakness, and suggest more measures might be needed (which have led to hyperinflation in the past).
But apart from that – everything is awesome!!