THE BANK of International Settlements (BIS), a Basle-based forum for central bankers and financial regulators, has highlighted an extended list of risks to the global economic recovery.
Likening the world economy at the height of the crisis in late 2008 to a patient at death’s door, the BIS argues in its annual report that the side effects of the policy measures implemented then are increasingly becoming apparent. These include chronic fiscal crises in some countries, an insufficiently reformed financial system and the generation of moral hazard for financial market participants as a result of bailouts and ultra-low official interest rates.
Decisions facing governments now, notes the report, are daunting. Policymakers must balance large risks: on the one hand, the danger that premature tightening of macroeconomic policy could cause relapse; on the other, that cumulative side effects of unprecedented rescue measures could themselves cause relapse.
The BIS discusses in detail the conduct of monetary policy, stressing the costs and risks associated with historically low official interest rates.
These include, according to the report, the delaying of reductions in leverage levels that it believes are needed for companies and households, the delaying of changes to banks’ business models and the generation of global imbalances as investors borrow in low-interest rate jurisdictions to purchase assets in others, most notably emerging markets. It concludes central banks might have to raise rates “sooner than may be comfortable for many”.
Another risk highlighted in the report, and one of particular relevance for Ireland, is the continued threat posed to recovery by a fragile banking system. It states that over the next two years, banks globally will seek to roll over $3 trillion (€2.44 trillion) in funding. Noting the stresses in interbank markets, it raises the possibility that “highly indebted governments may not be able to act as a buyer of last resort to save banks in a crisis”.
This warning comes on the heels of comments made in mid-June by Spanish treasury secretary Carlos Ocana that banks in that country were facing difficulties accessing interbank funding and a warning by the Bank of England on Friday that UK banks’ £800 billion (€984 million) in funding requirements over the next 18 months pose a serious risk to future lending.
Among the most urgent issues to be faced by developed countries, according to the BIS, is the reduction of budget deficits and public debt. Although the report differentiates between those countries that have “reached the limits of fiscal stimulus” and those that have retained investor confidence, it comes down in favour a sooner rather than later approach to budget consolidation.
While acknowledging the costs of tightening in terms of dampening growth, in its judgment these costs will be outweighed by the “persistent benefits of lower real interest rates, greater stability of the financial system and better prospects for economic growth”.
