Tricky times for central bankers
- From: "GWhyte" <gwhyte3003@xxxxxxxxxx>
- Date: Sun, 25 Sep 2005 03:24:30 -0400
Reluctant party-poopers
Sep 21st 2005
>From The Economist Global Agenda
Despite the economic impact of Katrina, which dealt a stiff blow to America'
s oil markets, the Federal Reserve has once again raised interest rates by a
quarter of a percentage point. With high fuel prices threatening to bring on
both inflation and recession, being a central banker is harder than it used
to be
http://www.economist.com/agenda/displayStory.cfm?story_id=4422583
WILLIAM McCHESNEY MARTIN, a past chairman of America's Federal Reserve,
famously observed that the job of a central banker is to "take away the
punch bowl just when the party is getting started". Unsurprisingly, this
often generates quite a bit of hostility from the party-goers, who would
prefer a few more shots of low interest rates to really get things going.
This accounts for the tendency of many central bankers in years past to err
on the side of easy money, resulting all too often in double-digit
inflation.
Of course, if the party gets out of hand, and the house is wrecked, the
central banker can expect to come in for plenty of censure, even from those
who were previously begging him to give them just one more for the road.
After the excesses of the 1970s, and the hangover of the early 1980s, it was
thought that monetary authorities had learned their lesson. Twenty years on,
most developed countries seem to have built a solid reputation for
inflation-fighting; even lax Italy has been brought under the discipline of
the European Central Bank (ECB). And developing countries, seeing the
results, seem to be genuinely interested in keeping inflation in check.
And yet this is a worrying time to be a central banker. Though global
economic growth is strong and inflation tame, powerful imbalances are
building beneath the surface, and they threaten to throw the world economy
off course. The fight against inflation is, it turns out, just one battle in
a wider war.
It is hard, of course, to feel too sorry for the Fed's Alan Greenspan, who
enjoyed rock-star-like levels of popularity in the late 1990s, when America
happily handed him the credit for its long economic boom. Nonetheless, he
now finds himself deep in uncharted waters. After cutting short-term
interest rates to just 1% to help ease the country out of the 2001
recession, he has been raising them at a measured pace, trying to keep the
economy from overheating. The Fed's hawkish credibility, along with cheap
goods from China and other low-wage countries, has helped to keep
consumer-price inflation relatively tame despite exceptionally loose
monetary policy.
Asset-price inflation is another story. Though America's stockmarkets are
quiet compared with the go-go 1990s, its housing market looks decidedly
frothy. Consumers have tapped into home equity and cut back saving to
virtually nothing in order to finance their continued spending. As a result,
they are dangerously overstretched and vulnerable to any change in interest
rates. A sharp correction in the housing market could give the economy
convulsions. There are similar worries in Britain, whose central bank cut
interest rates in August as the (so far) gentle deflation of the country's
housing bubble contributed to a sharp slowdown in consumer spending. The
Bank of England left rates unchanged this month, but with fears growing that
economic expansion will fall short of expectations, it may soon have to
choose between fighting inflation and staving off Britain's first recession
in over a decade.
The Fed may well face the same tough choice. Hurricane Katrina roared into
already tight oil markets, damaging much of America's oil-pumping
and -refining capacity, and another hurricane, Rita, threatened to wreak
more havoc along the Gulf coast this week. With the petrol price hovering
around $3 a gallon and America's consumers already living beyond their
means, another recession no longer seems impossible. Nonetheless, the Fed
continued to play the party-pooper this week, raising rates by another
quarter of a percentage point, to 3.75%, at its meeting on Tuesday September
20th. Katrina's inflationary effects, it concluded, were more worrying than
its direct impact on GDP growth.
Nonetheless, both effects are causing concern, and this has led to renewed
talk of stagflation, a central banker's worst nightmare. With its
combination of slow growth and fast inflation, stagflation presents the
monetary authority with a dreadful dilemma: lower rates and let inflation
run away, or raise them and throw even more people out of work. So far,
there is little evidence of real danger. But given that higher energy prices
generally boost inflation and shrink demand, it is not unreasonable to worry
about the future.
Yet Mr Greenspan and Mervyn King, the Bank of England's governor, have it
easy compared with Jean-Claude Trichet, the head of the ECB, monetary
guardian of the euro area. Mr Trichet presides over a currency zone more
diverse than America's, but without the fiscal stabilisers that help smooth
over regional variations. In 2004, Portugal's economy grew by 1%, Ireland's
by almost 5%, but both had the same nominal interest rate. This has the
perverse effect of giving higher real (inflation-adjusted) interest rates to
slow-growing, low-inflation countries, and lower real rates to booming
economies with rapid inflation-precisely the opposite of what a sound
monetary authority would prescribe.
Moreover, the euro area as a whole has grown slowly: by just 2% in 2004,
according to statistics from the Organisation for Economic Co-operation and
Development, compared with 3.1% in Britain and 4.2% in America. For this,
the central bank has taken a disproportionate share of the blame. Critics
say that the ECB, which has left interest rates unchanged at 2% for more
than two years, is paralysed, unable to look beyond its inflation-fighting
mandate to deal with Europe's economic malaise.
The reality is more complicated. The euro area's economic woes have much
more to do with tight fiscal policy and structural rigidities in its
markets, particularly those for labour, than with any bottlenecks in the
money supply. Real interest rates have actually been near zero in the euro
area for much of the past two years, making monetary policy relatively
loose. But because continental Europe's mortgage markets are less
sophisticated than those in Britain and America, changes in interest rates
do not filter through as easily to consumer demand, limiting the effects of
monetary loosening. And the ECB, like its American and British counterparts,
must contend with high oil prices pushing up the inflation rate and
hindering growth.
In Asia, too, central bankers are having to deal with the fallout of higher
oil prices. In Indonesia, rising prices for the country's oil imports, paid
for in dollars, recently sparked fears of a currency crash. The central bank
seems to have staved off the crisis, but only by raising interest rates
three times in the past month.
China's central bank faces a different set of problems. To keep the yuan
cheap enough to subsidise China's massive export industries, it has had to
buy billions of dollars and pour them into American bonds. The longer this
goes on, the more vulnerable the bank is to a fall in the value of the
dollar, which would in turn sharply decrease the value of its bond
stockpiles. But fears of the domestic political unrest that might occur if
the export sector faltered keep the bank from reducing its exposure to the
dollar. Moreover, the massive currency operations create domestic
inflationary pressure, which the bank struggles to contain given the
primitive state of China's financial markets. No matter where you are, it
seems, being the central banker is no party.
.
- Prev by Date: Louisiana public official accused of stealing relief supplies
- Next by Date: Stem cells and business
- Previous by thread: Louisiana public official accused of stealing relief supplies
- Next by thread: Stem cells and business
- Index(es):
Relevant Pages
|
