- The Bank of International Settlements warns that policymakers are at risk of pushing the global economy into stagflation, marked by high inflation and low growth.
- Central bankers are hamstrung because they cannot determine if the factors causing inflation are likely to be transitory or durable and how to respond to them is oftentimes a political rather than economic exercise.
The global economy may be teetering on the brink as it enters a new era of soaring inflation which requires central banks to raise rates, threatening even more malaise, at least according to the Bank of International Settlements (BIS).
In its annual report, the BIS said that the possibility of stagflation looms over the global economy as dangers of an era of unprecedented inflation dovetails with slowing growth and tighter financial conditions.
Policymakers have raised interest rates to combat record high inflation and no less than 70 central banks have increased borrowing costs, with half of them caving in to implementing outsized rate hikes of 75 basis points or more at a time.
However, keeping inflationary pressures at bay while concurrently softening the impact on economic activity is a large ask, and the likelihood is high that policymakers will get it wrong, which is why the BIS is suggesting that odds of a favorable outcome could improve if policies tighten in a timely and decisive manner.
But trying to enact policy when the economic sands are constantly shifting is like trying to juggle while driving a car blindfolded.
Policymakers are not soothsayers and can only respond to real-time data on the fly, which is bad for businesses trying to plan out their inventories, purchases and hiring.
Under such circumstances, companies will understandably err on the side of caution, especially if sentiment and outlook appear poor.
Complicating matters is that righting monetary policy, especially after decades of easy conditions, is challenging both politically and practically.
The Chairman of the U.S. Federal Reserve serves at the President’s pleasure for four-year terms, and who would want a recession as their legacy?
U.S. midterm elections are also around the corner and if policymakers yank the cord too hard, the landing won’t be hard, the floor will disappear from beneath the American economy.
Which is why the BIS’s call for policymakers to enact “reforms to support long-term growth” which paves the way for more normalized “fiscal and monetary policy settings” is more aspirational than practical and which is why investors should expect more inconsistency and volatility.
There are no more low-hanging fruit in fixing monetary and fiscal policy because the global economy has gotten so punch drunk off liquidity that the hangover is too much for most policymakers to bear.