Better to overshoot than to fall short. That is the maxim with which the central bankers approached the way out of the crisis. Those responsible for monetary policy proposed a prudent withdrawal of the stimulus, aware that any false step could derail the recovery. But the rapid onset of a high inflation rate has put pressure on them. With the hawks claiming to accelerate the pace, the bankers for now hold the rate considering that the price hike is temporary. Analysts warn, however, that they will need to act quickly if they see second-round effects that could exacerbate inflation.
The end of the summer brought fresh air to the offices of the central bankers. The recovery encouraged them to prepare the ground to relax the monetary stimuli they launched to sustain economies during the pandemic. But on both sides of the Atlantic, prudence was chosen: in Europe, so as not to complicate the financing of the countries, which have ended up with record debt volumes, while the US awaits an improvement in employment after the disappointing August data and the slowdown in vaccination. “Before the financial crisis of 2008, the sole objective of central banks was price stability. Now, they also implicitly assume the financial one ”, explains the professor of Economics at the University of Barcelona, Antoni Garrido.
After more than a decade stunted price increases, the rapid rise in the inflation rate has given wings to the hawks, who advocate a speedy return to orthodoxy. Central bankers, however, believe that the price hike is temporary and due to energy and production bottlenecks. At the forum organized by the ECB last week, the heads of central banks said they were not concerned. But the forcefulness with which they affirm it varies from the phase of the recovery in which their economies are.
For now, Norway is one of the countries that has gone the furthest by deciding to raise interest rates to 0.25%. Canada, England and Australia have also launched signs of picking up the protective mesh they laid. But analysts are looking to Washington and Frankfurt. The markets expect both to lead the way out in December, although with a more assertive message from the Federal Reserve and more nuanced from the ECB, where analysts consider an increase in the traditional purchase program (APP) if the one linked to the pandemic is lowered or eliminated.
In the US, the economy has already reached pre-pandemic levels and inflation has climbed to 5.4%, two points more than in the euro zone. Federal Reserve Chairman Jerome Powell has admitted that bottlenecks have made the price hike more persistent than anticipated, although he continues to believe it is temporary. “Even with the most advanced cycle, the US resists and hurries,” says Garrido. Even so, it has advanced that, if the recovery continues, it will begin to relax debt purchases, now of 120,000 million dollars (100,000 million euros) per month.
This is no more than what the ECB president, Christine Lagarde, has already done, who has begun to reduce the rate of 80,000 million euros a month. But since he announced it, he has not stopped redounding in a message. “The lady is not tapering” [”La señora no está retirando estímulos”], he warned, evoking the famous speech in which Margaret Thatcher said that she did not intend to change her course. In last week’s forum, he repeated up to six times that he would maintain his accommodative policy. “The ECB does not want to repeat the mistakes of 2011, when a similar situation occurred,” says Bruegel researcher Grégory Claeys, referring to the rate hike carried out by former President Jean-Claude Trichet in the face of rising prices. “The message is that, before inflation, we should be more concerned about the risk that a premature withdrawal from purchases will jeopardize the recovery,” he adds.
The risk of losing “credibility”
Alarms are being raised again in Berlin after inflation has hit 4%, the biggest rise since 1922. Hawks and pigeons they have been taking positions. Jens Weidmann, president of the Bundesbank has already asked to focus on prices, while the governor of the Bank of Portugal, Mário Centeno, has demanded caution. At the forum organized by the ECB, its president, Christine Lagarde, asked not to “overreact” in the face of rising prices.
“The problem is that an increasing number of people are beginning to notice that real inflation is above the ECB’s target. So you need to find some way to explain both the medium-term strategy and the discrepancy between the medium term and the present, ”says Erik Jones, director of the Robert Schuman Center and the European University Institute.
Investment firms believe that Lagarde’s firmness may end if the so-called “second-round effects” begin to show. For now, core inflation is held in check, suggesting that companies perceive the rise as temporary. “The question is whether the current rally due to energy carries over to other prices. Companies are now absorbing the shock reducing margins, “says Raymond Torres, director of the Funcas Coyuntura, who believes that, if this ends up happening, the ECB may face a” credibility problem “that may even be transferred to the financial markets. That second round of consequences can come, too, in the form of salary increases. Lagarde has stated that she will be attentive so that these effects do not occur. In the next few weeks you will be able to verify it.