Interest rates must rise sooner rather than later to stop high inflation taking hold, the influential Bank for International Settlements warned yesterday.
In its annual report, the BIS said interest rates may have to rise more quickly than expected to stop loose monetary policy from pushing up prices still further. It also warned that delaying cuts to reduce budget deficits could heighten the sovereign debt crisis, with grave results if investors lost confidence in a major economy such as the US.
"With the arrival of sharper increases for food, energy and other commodities, inflation has become a global concern," the BIS said. "Tighter global monetary policy is needed in order to contain inflation pressures and ward off financial stability risks."
The BIS is the international body that came closest to predicting the economic crisis of 2008 and 2009. As the banker to the world's central banks, it is in charge of co-ordinating their response to the turmoil.
Its comments on inflation were aimed at booming emerging markets but also at developed countries where central banks are struggling to balance efforts to support economic growth with rising prices driven by the cost of commodities such as oil, wheat and cotton.
The Bank of England's monetary policy committee last week signalled no early move to lift rates from their record 0.5 per cent low, and it has argued that inflation will ease as short-term price increases are not repeated. But the BIS warned that rising prices could take hold and it cast doubt on the Bank's view.
"The great danger is that long-term inflation expectations will start to climb, and current price developments and policy stances are sending us in the wrong direction," it said. "As yet there has been no move by the monetary policy committee but one wonders how long its current policy can be sustained."
The annual report warns that despite making progress towards stability, the global economy remains beset by many of the problems that caused the financial crisis three years ago and could be pitched back into chaos.
The report was published at the end of a three-day meeting of central bankers in Geneva at which the BIS proposed additional capital requirements for the world's most systemically important banks – including HSBC, Barclays and other UK lenders.
The BIS proposes that banks should hold up to 2.5 percentage points more capital if they are systemically important, with an extra charge if they further increased in size and significance.
It warned that a key threat to recovery was "lingering indebtedness in the private sector – households as well as financial and non-financial firms – which must be cut to levels well below those seen in the middle of the last decade".
It also identified the failure of the world's trading nations to tackle the question of current account imbalances – the root cause of the financial crisis according to many economists.
"Large and persistent current account imbalances continue to plague the global economy, while the immense gross financial flows coursing through the system are intensifying risks to financial stability," the BIS warned. "International co-operation and co-ordination is particularly needed here if we are to avoid a painfully disorderly adjustment."
The report offered tacit support to George Osborne's aggressive drive to cut Britain's budget deficit. The BIS said: "In advanced economies where the recovery appears now to be self-sustaining, this risk is much smaller than it was a year ago. The biggest risk is doing too little too late."Reuse content