This year’s presentations and discussion were held by three people closely linked to monetary policy: William R. White, former Economic Adviser and Head of the Monetary and Economic Department at the Bank for International Settlements (BIS), who from an early stage has warned of the risks of ultra-relaxed monetary policy; Leszek Balcerowicz, former Finance Minister and former President of the National Bank of Poland, who played a key role in Poland’s economic transformation from a planned to a market economy; and Thomas Jordan, Chairman of the Governing Board of the Swiss National Bank (SNB).
It’s not a liquidity problem, it’s a debt problem
William White sharply criticised central banks’ current ultra-expansionary monetary policies, stating that they were based on false assumptions: The global economy is not suffering from a liquidity, but rather a solvency problem, and the latter requires a political solution. Unfortunately, however, politicians are hiding behind the central banks responsible for providing liquidity, and assigning them tasks that they cannot fulfil.
According to Mr White, it is no surprise that attempts to stimulate demand with ultra-expansionary monetary policies have not worked. Ultra-low interest rates unsettle business and carry the suggestion of panic. The consequence of quantitative easing threatens to be ‘financial repression’, including an obligation to invest in government debt – hardly the ideal basis for corporate investment. Moreover, private consumption risks being curbed by rising household debt. Indeed, global leverage has surged by 20% since 2007, with no hint of a debt reduction in sight. Zombie banks would continue to finance zombie companies, while the prices of many assets climb into correction territory.
To further complicate matters, the economically important regions are grappling with difficulties: The US is contending with a savings rate that is too low, and the euro area is preoccupied with structural problems. The emerging economies, until recently characterised by relatively low debt and high growth potential, qualities which made them part of a potential global solution, have now become part of the problem, with the sharp increase in corporate debt being the main contributing factor.
Mr White argued that the longer central banks are subject to political manipulation, the harder it will be to move away from ultra-expansionary monetary policies. What does that mean for the future? While a positive outcome to the current crisis is not to be excluded, a turbulent final stage, with serious consequences for the world economy, seems more likely.
State interventionism as cause of the crisis
Leszek Balcerowicz, now professor at the Warsaw School of Economics, was barely more upbeat. Mr Balcerowicz maintained that the main cause of the finance and debt crisis is not market systems, but the increase in state intervention that is ultimately leading to economic and social destabilisation. He substantiated his argument with examples of what he called ‘socialist enclaves’, such as Fannie Mae and Freddie Mac in the US, Germany’s Landesbanken and Spain’s Cajas. Mr Balcerowicz contended that it was ludicrous to blame capitalism for the crises when the largest downturns in growth have actually occurred in socialist autocracies, and that poor economic policy was usually the result of poor regulation – for example, the oversized Basel rulebook. Mr Balcerowicz’s key question was how to avoid bad economic policy, and his answer was clear and simple – the further politics and economic policy are kept apart, the better the conditions for economic growth.
Mr Balcerowicz saw little cause for optimism when it came to the European Union and the euro area. First, the European Central Bank’s unorthodox monetary policies are neither a ‘free lunch’ nor a substitute for fiscal and structural reform. Secondly, ‘top-down’ reform isn’t a solution for Europe because member states are too heterogeneous in terms of competitiveness and growth. France or Italy’s structural problems cannot be solved with fiscal union. For Balcerowicz, the only successful examples of fiscal union are Australia, the US and Switzerland thanks to ‘no bail-out’ clauses laid out in the constitution.
A cautiously positive outlook
After the subdued forecasts of the previous speakers, it fell to Thomas Jordan to introduce a modicum of hope. He began by comparing key data from the start of the financial crisis in 2007 to today.
For the SNB, the situation at the beginning of 2015, when it discontinued the minimum exchange rate against the euro, was completely different to that just prior to the introduction of the minimum exchange rate in September 2011. Then, the problem was the strength of the Swiss franc. By contrast, the issue in 2015 was the weakness of the euro caused by the continuing sovereign debt crisis, confusion surrounding Greece, and the ECB’s quantitative easing programme. Under these circumstances, prolonging the minimum exchange rate strategy would not have been sustainable. The SNB would have been forced to defend the minimum rate with constant intervention, leading not just to a loss of control of its balance sheet, but also of monetary policy. The central bank acted while it was still free to do so.
Mr Jordan particularly emphasised that the SNB has never shied away from expanding its balance sheet, but only if the benefits outweigh the costs. He recognised that discontinuing the minimum exchange rate presented a significant challenge to large parts of the Swiss economy, and is impacting balance sheets and the broader economy. However, compared with 2011, the Swiss franc is no longer overvalued equally against all other major currencies.
Mr Jordan acknowledged that negative interest rates are an unusual instrument, with potential side effects, namely, that in the long term, low and negative rates could distort public allocation of assets and lead, in particular, to rising house prices and faster credit growth. However, Mr Jordan maintained that under the current circumstances, negative interest rates and the readiness to intervene are indispensable monetary policy instruments in lowering the attractiveness of the Swiss franc. Moreover, the potential negative effects of low interest rates in place since 2008 have been limited. The banks’ self-regulation measures and the anti-cyclical capital buffer have meant that the situation in the Swiss real estate market is largely under control. A deceleration of credit growth has also been observed. What is more, the negative interest rates affect no more than 5% of banking system assets and pension funds.
Mr Jordan conceded that while slightly positive inflation might be preferable from an economic point of view, the current negative inflation rate is part of an adjustment process following the sharp appreciation of the Swiss franc. What remains important is for businesses to keep unit wage costs under control compared to foreign rivals. Mr Jordan praised Swiss business for showing astonishing resilience, as economic growth, having dipped into negative territory in the first quarter, had turned positive again by the second quarter.
Summing up, Mr Jordan reminded his audience that the SNB could not influence the complex international environment of financial markets, that the National Bank’s job is to bring about suitable monetary conditions in order to fulfil its constitutional mandate in the medium term, and that temporary, suboptimal inflation is unfortunately not always avoidable.
Not a question of perspective
The concluding discussion with the floor was dominated by scepticism regarding central banks’ current monetary policies. The view was expressed that the largest risk in connection with negative inflation was greater costs for companies, which in turn was curbing investment, as nominal wages have limited downward flexibility. A further concern raised was that ultra-expansionary monetary policy could lead to inflation in the long term, as happened in the 1960s and 1970s.
The question of whether negative interest rates could be reconciled with a market economy received a pragmatic rather than an academic reply. In principle, such measures are highly unusual for central banks. However, given the current extraordinary circumstances, they have become a necessary evil. Overall, the overwhelming impression was that in attempting to solve short-term problems, solutions that pose serious long-term distortions are being tolerated –from a global, European and Swiss perspective.