“The crisis laid bare that the pursuit of short term price stability alone is not a panacea."
Lima, Peru (PRWEB) October 10, 2015
The extraordinarily easy monetary policies of the last eight years succeeded in stabilizing markets during the financial crisis and may well have averted a second Great Depression, but much unfinished business remains for governments and central bankers to secure a lasting recovery, the Group of Thirty (G30; http://www.group30.org) said in a report released on Saturday.
The G30 report entitled Fundamentals of Central Banking: Lessons from the Crisis was produced by Jacob Frenkel (Chairman of the Trustees of the G30 and project Chair), Arminio Fraga and Axel Weber (Trustees of the G30 and members of the project Steering Committee), all of whom former central bank governors. The Steering Committee was joined by a working group of 16 members of the G30, most of whom also former central bankers. It examines in depth what precipitated the recent financial crisis, the lessons for central banks and their roles and responsibilities ahead for managing, resolving and preventing future crises.
A lasting recovery requires governments to shoulder more responsibility and undertake the fiscal, regulatory and other structural reforms needed to support economic growth, instead of relying so heavily on monetary policy, the report said. Central banks alone cannot resolve all the challenges the global economy faces. As some major central banks prepare to end this extraordinary period of near-zero interest rates, while others might still expand further, the need for governments to adopt other policy instruments grows ever more pressing.
“The ultimate resolution of the crisis must be handled by governments, parliaments, public authorities as well as the private sector that should take advantage of the temporal opportunity offered by this extraordinary period of central bank policy,” Jean-Claude Trichet, who chairs the G30 and is the former president of the European Central Bank, said in releasing the report.
“The report makes clear that while the core principles of central banking hold firm -- namely the pursuit of long-term price stability, underpinned by strong, independent and publicly accountable central banks -- these principles are reinforced by the addition of a financial stability role and macroprudential instruments, assigned to the centrals banks,” said Jacob Frenkel, chairman of JPMorgan Chase International and former governor of the Bank of Israel. “While in the past the combination of conventional and unconventional monetary policy has succeeded in averting financial market collapse, it is essential that going forward monetary policy be more resolutely accompanied by structural reforms aiming at increasing economies' growth potential. In the absence of such needed reforms, the unintended consequences of a prolonged period of extraordinarily loose policy are accumulating,” he added.
“In this era of unconventional and asymmetric monetary policy and ever-growing financial stability issues, central banks have become the go-to players. This deserves some reflection at both the local level and the global more systemic level,” said Arminio Fraga, founding partner at Gávea Investimentos and former governor of the Central Bank of Brazil.
The prevailing high degree of indebtedness in the various economies reduces the effectiveness of monetary policy in its efforts to stimulate aggregate demand. The high degree of leverage and debt is a source of vulnerability for the global financial system.
“The crisis laid bare that the pursuit of short term price stability alone is not a panacea. Dangerous credit-driven imbalances can accumulate even when inflation is low and stable. Credit dynamics in the future will have to be monitored much more closely, since excessive debt may result in large imbalances and distortions” said Axel Weber, chairman of UBS and former president of the Deutsche Bundesbank.
In examining the fundamentals for central banking, the report outlines three overarching key principles:
- Long-term price stability is the most important contribution that central banks can make to ensure strong and sustainable economic growth. Therefore, the attainment of such price stability must be a key mandate of central banks.
- Ensuring financial stability should also be an important mandate of central banks.
- In pursuing these mandates, central banks' independence is crucial and must be maintained.
These general principles are complemented by more specific observations in the areas of crisis management, resolution and prevention:
- Crises can happen, even in a low inflation environment. Thus all countries must put in place frameworks that are capable both to manage and to resolve crises.
- Central banks have a crucial role to play in ensuring the stability and smooth functioning of the financial system.
- The ultimate resolution of crises that have their roots in excessive credit creation and debt accumulation often can only be accomplished through arms of government other than the central bank.
- Supportive actions by central banks can be useful, but there are serious risks involved if governments, parliaments, public authorities, and the private sector assume that central bank policies can substitute for the structural and other policies they should adopt themselves.
- Unconventional monetary policies have played an important role in the management of recent crises. However, deeper studies are still needed to ascertain their longer-term benefits and unintended consequences.
- Central banks have a primary responsibility to ensure the efficiency and stability of the global payments and settlement systems.
- Macroprudential policies have a role to play in crisis prevention, especially in dealing with credit-supported booms, particularly those in the housing sector.
- Flexible exchange rates are the most effective way to minimize the international repercussions of domestic monetary policies.
- Central banks must be transparent in explaining their policy actions. This will increase the capacity of markets to understand and anticipate monetary policy decisions and contribute to financial stability.
- While macroprudential policies are the preferred choice to address financial stability concerns, there is no consensus as to whether monetary policy should be used to lean against the excessive credit expansion and the resulting build-up of non-inflationary imbalances in the economy.
(The Group of Thirty’s mission is to deepen the understanding of international economic and financial issues, to explore the international repercussions of decisions taken in the public and private sectors, and to examine the choices available to market practitioners and policy makers. Its members are leaders in the financial and monetary policy communities.)