Central Banks Admit They are Powerless to Fight Future Crises
The Bank of International Settlements, widely regarded as the bank of central banks, has issued a stark warning that monetary authorities around the world are growing increasingly impotent and likely to be ineffective in the face of the next economic crisis. With its board members reading like a “Who’s who” of global central bankers, including Janet Yellen, Mario Draghi, and Mark Carney, to name but a few, the bank’s scathing assessment of current monetary policy is a clear sign of the growing realization among central bankers that their current policies are failing.
With Interest rates globally set at unprecedentedly low levels, the BIS argues that central banks have a shrinking set of policy tools with which to fight the next crisis, having painted themselves into a corner with persistently low interest rates. Or in the BIS’ own words “What use is a gun with no bullets left?”. In a rare moment of clarity from a mainstream institution, the report heavily criticizes the destabilizing effect low interest rate policies have had on markets all over the world, particularly the sharp asset price inflation in fixed income and equity markets.
The BIS report merely confirms, somewhat ironically given the composition of its board members, what ordinary investors have been seeing for years. Namely, that low interest rates, far from providing a boost to economic growth, are actively suffocating it. The continued misallocation of capital has stifled innovation and productivity, with corporations favoring debt fueled stock buybacks and acquisitions in order to generate shareholder returns in place of real economic activity.
As a consequence, when the next crisis hits, central banks across the world will be effectively tongue tied, with outright debt monetization and currency debasement among the few tools left at their disposal.
Biting the hand that feeds
The over reliance on borrowed money has also spread to governments worldwide, many of whom have increased the size of their national debt by an extraordinary magnitude since the 2008 crisis. The United States alone has increased its level of indebtedness by nearly 100% to over $18 trillion during the period, the sharpest increase of public sector debt in history. Low interest rate environments have allowed governments to avoid implementing tough structural reforms aimed at setting the economy on a sustainable growth path. The BIS report could in some way, be viewed as an attempt to exonerate central banks from the financial storm on the horizon, and force governments to start taking their fiscal responsibilities seriously. The gravy train of easy monetary policy as a means to shirk tough decisions can no longer be relied upon.
With monetary policy maxed out, governments around the world will come under increasing pressure to implement radical reforms, and alter existing monetary and political institutions which are focused on real investment and growth instead of sheltering unsustainable asset bubbles within their economies. Current events in Greece are a good indicator of things to come for many economies throughout the world should governments remain complacent about the unsustainable mountains of debt being accrued. Faced with debt it cannot repay, and no ability to borrow more money, Greece is on the verge leaving the Eurozone, and the Euro, a radical move in its own right, and an indication of the type of upheaval awaiting other governments when their respective debt bubble bursts.
Increasing urgency to raise rates but no ability to do so
The rhetoric from the BIS is clearly in favor of rising interest rates in order to address the current imbalances in the global economy, and these sentiments are echoed by the Fed and the Bank of England. It’s clear the Fed believes rates should be higher than current levels, but the reality is they cannot be. A rise in rates to normal levels would bankrupt many over leveraged corporations overnight, and spark a string of defaults across emerging markets who have relied heavily on the dollar carry trade in recent years as a means of financing. For investors, particularly precious metal investors, the implications of the BIS report is clear. Central banks are openly admitting that current policies are failing and rates should be higher, but will not be raised due to the destruction it would cause across world financial markets. Policy responses to the next financial crisis when it hits, will be severely limited. Debt monetization and currency debasement are amongst the few options left to central banks. Investors wishing to protect the purchasing power of their savings need to keep this in mind. The safety net of easy money and central bank goaltending will likely disappear entirely, and individuals will be left to face the music on their own.