All societies use technocrats to govern. In earlier civilisations, priests took on this mantle, intermediating between the rulers and their gods. Today, the new priest class – financial officials, central bankers and favoured academic advisors – interpret signs from economic and financial gods. They offer prayers, perform sacred ceremonies, using votive objects and undertake the odd human sacrifice in the hope of prosperity.
Following the events of 2008/2009, politicians facing difficult and electorally unpopular decisions cleverly passed responsibility for the economy to finance officials. Enraptured with their new found importance and associated elevation in status, policy makers accepted the responsibility for restoring the health of the global economy.
But their efforts have been only partially effective. They have been unable to deliver the required miracles. Cruel and hard economic gods have not favoured them in bringing about a return to pre-crisis health.
First, policy makers engineered an artificial stability. Budget deficits, low, zero and (now) negative interest rates and quantitative easing (QE) did not restore growth or increase inflation to levels necessary to bring high debt levels under control.
Low rates and suppression of volatility encouraged asset price booms in many markets. As inflated prices of many assets act as collateral for loans, central banks are forced to support values because of the potential threat to financial institutions.
Some central banks now lower interest rates whilst simultaneously trying to control rapid property price rises by preventing borrowing; akin to driving with one’s foot on both the accelerator and brake. High prices exacerbate inequality and related social tensions, favouring the financial asset owning wealthy whilst penalising other groups, for example reducing housing affordability.
Second, as tried and tested policies lose efficacy, new unconventional initiatives increasingly resemble shamanic rain dances. They seem the risky response of clever but desperate men who have run out of ammunition and ideas. The actions reflect George Santayana’s observation that “fanaticism consists in doubling your efforts when you have forgotten your aim”.
Central to this debate is negative interest rate policy (NIRP), now in place in Europe and Japan. Markets do not believe that NIRP will create borrowing driven consumption and investment which generates activity. Existing high debt levels, poor employment prospects, low rates of wage growth and over-capacity have lowered potential growth rates, sometimes substantially. NIRP is unlikely to create inflation for the same reasons, despite the stubborn belief amongst economic clergy that increasing money supply can and will ultimately always create large changes in price levels.
There are toxic by-products. Low and negative rates threaten the ability of insurance companies and pension funds to meet contracted retirement payments.
Bank profitability is adversely affected. Potential erosion of deposits may reduce banks’ ability to lend and also reduce the stability of funding, something which central banks perversely want improved.
Bank weakness has significant contagion risks. Profitability and solvency issues will affect investors in hybrid capital issues, such as contingent convertible securities (CoCos) and bail-in bonds which can be converted into equity or written down under certain circumstances. Designed to strengthen banks, these securities, merely shift the risk to investors, such as pension funds, insurance companies and individual savers.
The capacity of NIRP to devalue currencies to secure export competitiveness is also questionable. The euro, yen and Swiss franc have not weakened significantly to date despite additional monetary accommodation. One reason is that these countries have large current account surpluses: eurozone (3 per cent of GDP), Japan (2.9 per cent of GDP) and Switzerland (12.5 per cent of GDP). The increasing ineffectiveness of NIRP in managing currency values reflects the fact that the underlying problem of global imbalances remains unresolved.
Third, agreement on the liturgy to be used is proving difficult. The economy clergy have found cross-border and inter-faith co-ordination hard to achieve. Despite the International Monetary Fund urging bold, broad measures, the G20 nations shows little appetite for new simultaneous initiatives.
The weakness in the US dollar following the March 2016 Shanghai summit led to suggestions that the leading economies had agreed to lower the value of the dollar. This would alleviate pressure on China from a stronger yuan. It would also support commodity prices assisting lenders who have over-extended themselves providing credit to commodity producers.
After a short period of stability, the accord, if there ever was one, seems to have unravelled. At the G7 finance minister’s meeting in May 2016, Japan clashed with the US on the issue of currency valuation, providing amusing discourses on the semantics of “orderly” foreign exchange markets. The devaluation of the sterling after the Brexit vote further complicated currency management.
Artificial currency values are ineffective in gaining sustained economic advantage. Japan and the eurozone benefit from a stronger dollar but the US loses. At the same time if the euro and yen weaken, then as the dollar rises China loses as the yuan which is linked to the American currency appreciates.
Each nation now targets fiscal and monetary policy on domestic objectives, whilst paying lip service to not seeking currency devaluation or beggar-thy-neighbour policies. International co-operation is being replaced by conflict.
Faith placed in the new economic priesthood is now questioned. Increasing doubt about their powers itself now poses a serious threat to the health of the global economy.
Satyajit Das is a former banker. His latest book is ‘A Banquet of Consequences'’ He is also the author of ‘Extreme Money’ and ‘Traders, Guns & Money’
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