Föhrenbergkreis Finanzwirtschaft

Unkonventionelle Lösungen für eine zukunftsfähige Gesellschaft

Can’t hardly wait

Posted by hkarner - 24. März 2018

Date: 22-03-2018
Source: The Economist: Free exchange

A misguided notion of what is normal could cause central banks to err

LIKE teenagers, central bankers long to feel normal. For many of them (the central bankers, that is), the past decade has been an unusually angst-ridden one. They stumbled through it, confused by the way their policymaking bodies were changing, unsure what to do with their interest rates, embarrassed by their burgeoning balance-sheets. Teenagers often seek to quell their anxiety and insecurity by imitating behaviour they regard as normal. So too for central bankers.

But the desire to normalise policy, and leave crisis-era measures behind, could distract central bankers from their main goals, namely to support growth and control inflation. The Bank for International Settlements, a global club for central bankers, recently urged officials not to let market jitters discourage them from raising interest rates. Yet at worst, chasing some elusive notion of normal could put the global recovery at risk.

What central bankers mean by normalising policy is clear enough. As Peter Praet, the chief economist of the European Central Bank (ECB), explained in a recent speech, to normalise is to end their reliance on “unconventional” or “non-standard” tools such as quantitative easing (QE, the printing of new money to buy assets). It means returning to a familiar world in which adjustments to interest rates are their main policy lever.

Central bankers make no secret of their longing to return to this normality. When, in his first monetary-policy report to Congress, Jerome Powell, the new chairman of the Federal Reserve, praised his predecessor, Janet Yellen, he focused on her achievements in just this area. “During her term,” he said, “Federal Reserve policymakers began to normalise both the level of interest rates and the size of the balance-sheet.” (On March 21st Mr Powell made his own contribution to the effort, as the Fed raised its benchmark rate by 0.25%.)

But what makes one era the standard by which all others are judged normal or abnormal? Older central bankers cut their teeth during the 1970s and 1980s when giants like Paul Volcker, a former Fed chairman, used double-digit interest rates to tame inflation. Younger ones began their professional lives during the 1990s, when Alan Greenspan and his peers manipulated their economies with a deft rate hike here, a cunning cut there.

After the financial crisis, policy rates plummeted to near zero, forcing central bankers to experiment with QE, negative interest rates and promises to leave rates at rock-bottom far into the future. Since the crisis, asset accumulation in rich economies, which still continues in the euro area and Japan, swelled central banks’ balance-sheets by trillions of dollars.

This combination is more than a relic of the financial crisis, however. Rather, it increasingly looks like a persistent feature of the world economy. Across rich countries, central banks’ benchmark interest rates have been only about 2%, on average, over the past 20 years (see chart). The Fed hopes to raise its benchmark policy rate to 3.5% by 2020, according to its most recent projections, clearing that low bar, but with little to spare.

Since rates usually fall by much more than three percentage points during downturns, the Fed’s projections imply that “unconventional” tools such as asset purchases will be needed again in future. For other central banks, normal is even further out of reach. The Bank of England hopes to reach a policy rate of just over 1% by 2021. The ECB is still in the process of weaning its economies off asset purchases, currently set at €30bn ($37bn) a month. Japan has been living in an abnormal world for roughly a quarter of a century.

Am I bovvered?
All this makes talk of normalisation perplexing. It might be bravado intended to conceal uncertainty about how to behave—another teenage habit. Or central bankers may be pinning their hopes on global economic conditions returning to something more like supposedly “normal” periods in the past. But central-bank policy rates are low because interest rates around the world are low. Those rates reflect a world in which economic growth in advanced economies is slower than it was in the post-war decades, in which there is more capital sloshing around than governments or firms can easily put to good use, and in which inflation is very low and stable.

None of this seems likely to change soon. Slow productivity gains and ageing populations weigh on advanced economies. An unanticipated borrowing binge by America’s government will soak up some global savings. But it has not yet raised yields on long-term Treasury bonds from their historically low levels. In the absence of a sudden and dramatic change in global conditions, central bankers will be forced to abandon plans to normalise policy—hopefully before, but potentially after, raising rates above levels their economies can tolerate.

Some factors pushing down global interest rates, such as slow growth and excess capital, depress the real (ie, adjusted for inflation) rate of interest. Yet the policy rates that central banks control are nominal. Inflation is a wedge between the two. Consequently, higher inflation would create an environment in which central bankers could set policy rates well above zero even as real interest rates stayed at their current lows.

For just that reason, some economists have proposed a change in central-bank targets. Among their number are former Fed officials, including Narayana Kocherlakota, who has recommended an increase in the central bank’s inflation target, and Ben Bernanke, who prefers a flexible approach that would give central banks the freedom to allow inflation to rise temporarily higher than the current target permits.

Each idea has its merits. Neither could be described as a return to normal. But as the rare self-confident, trend-setting teenager realises, it is possible, and indeed often preferable, to come to your own understanding of what normal means.

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