It is painful to see how out of sync Jaime Caruana is. The general manager of the Basel-based Bank for International Settlements, Caruana wants to remove the punch bowl from a party that other monetary policymakers claim hasn’t gotten started. Less than a week ago, Caruana called for an end to ultra-low interest rates, saying they were no longer helping to stimulate demand. The increased risk-taking fostered by lax monetary policies, he added, might not “turn into productive investment.” In the short time since his speech, his view has been rebutted by Federal Reserve Chair Janet Yellen, Bank of England chief economist Andy Haldane, European Central Bank President Mario Draghi and Sweden’s central bank.
The consensus among these policymakers, who have actual responsibility for economic performance in their respective domains, is that monetary easing is necessary, too-low inflation is evil and tighter supervision of banks will suffice to stave off future financial crises. For the second year in a row, Caruana’s lonely voice is being drowned out by a Keynesian chorus.
In a lecture this week, Yellen delivered a paean to the macroprudential approach to building financial stability. “I do not presently see a need for monetary policy to deviate from a primary focus on attaining price stability and maximum employment,” she declared. If banks have more capital and are more tightly regulated in general, she reasoned, they become more resilient. “Because a resilient financial system can withstand unexpected developments, identification of bubbles is less critical,” Yellen said.
On the same day, Haldane made a cheerful speech at a financial conference in London. “Has monetary policy aided and abetted risk-taking? I hope so,” he said. “That’s why we did it.” If at some point the financial “pudding” becomes “over-egged,” macroprudential regulation ― a new arm central banks have grown, Haldane said ― will be brought to bear.
During the ECB’s monthly press conference this week, Draghi said that interest rates would “remain at present levels for an extended period of time” to lift inflation closer to the ECB target ― slightly less than two percent. The ECB will start regulating banks in November, at which point Draghi will surely follow the consensus line on regulation, as well.
Sweden’s Riksbank, meanwhile, rejected Caruana’s arguments in the most forceful way. It cut its key rate to 0.25 percent from 0.75 percent, ending a three-year effort to prevent bubbles with tighter monetary policy.
In April, Nobel laureate Paul Krugman subjected Riksbank to a vitriolic attack, calling its decision to raise its benchmark rate to 2 percent in 2011 a “terrible mistake” and accusing it of “sadomonetarism.” (The BIS, according to Krugman, is a “sadomonetarist stronghold.”) Because of the rate hike, Krugman wrote, Swedish unemployment stopped falling, then deflation set in (consumer prices have indeed been falling for the past four months in Sweden), and “the rock star of the recovery turned itself into Japan.”
Actually, the rate hike had little discernible effect on unemployment dynamics. Here is a chart of Sweden’s consumer price index (lower line) and its unemployment rate (upper line). The rate hike occurs at the peak of the CPI line.
If anything, the chart supports Caruana’s notion that low inflation may now have more to do with globalization and increased competition than with weak demand. But that didn’t stop Krugman from accusing “sadomonetarists” of keeping rates high to “demonstrate how tough they are by inflicting pain.”
Another eminent pundit, Financial Times’ Martin Wolf, this week mocked Caruana as “Basel’s Jeremiah.” Wolf called Caruana’s advice on monetary policy “foolish” and argued that it would lead to bankruptcies and further indebtedness.
Thus, policymakers have the ideological backing to continue allowing economies to float on a cushion of soft money, no matter how little evidence exists that it’s really helping. As productivity growth slows almost to a halt and shadow banking swells on both sides of the Atlantic to evade the vaunted macroprudential tools, investors ignore overpriced assets and bet on further growth. The Weeping Prophet of Basel may yet weep for his deniers.
By Leonid Bershidsky
Leonid Bershidsky is a Bloomberg View contributor. He is a Berlin-based writer, author of three novels and two nonfiction books. ― Ed.