TWN Info Service on Finance and Development (Jul14/01)
4 July  2014
Third World Network  

BIS calls for reversal of loose money policy, hints at austerity
Published in SUNS #7835 dated 2 July 2014
Geneva, 1 Jul (Chakravarthi Raghavan*) - The Bank for International Settlements (BIS) has asked the world's central banks to change course and reverse their policies of monetary stimulus, warning, with an almost professorial admonishing finger, that the longer the policy continues on the same course as now the more difficult it will be to change.

The Basel-based BIS (commonly called the Central Bank for the world's central banks) advocates this course in its 84th annual report published on 29 June.

The global economy, says the BIS, has shown encouraging signs over the past year. But its malaise persists, as the legacy of the Great Financial Crisis and the forces that led up to it remain unresolved, it says.

It is difficult to fault the BIS analysis that the longer the policy remains on present course, the more difficult it will be to change.

This was demonstrated in the two episodes last year (cited in the report) of market turbulence (bond market sell-offs, short-term funds fleeing "emerging markets", and sharp currency fluctuations unrelated to underlying economic elements) demonstrated at the hints of the US Fed's reversal of asset purchases (the unorthodox policies used by the Fed, which having reached zero-interest lower limits had to find other ways for monetary easing).

The BIS underscores the need for ‘longer-term perspectives', pointing out that financial cycles (financial fluctuations) are longer and cover 10-15 years while business cycles (output fluctuations), the normal focus of macro-economists and policymakers, last a maximum of eight years.

[The business cycle, since US policies are dominant determinants, covers two terms of one President and four terms of a Congressman, and a financial cycle between 3 to 4 Presidential terms and 5-8 terms of a Congressman. To state it in such language brings out the realities of politics and political economy that need to be factored in, but seldom is.]

The US Fed's "merest hints" of easing and reversing asset purchases had such consequences on the economies of the developing countries that the Governor of Reserve Bank of India (RBI), India's central bank, Mr. Raghuram Rajan, took the unusual step (for a central banker) to publicly criticise and berate the Fed and the ECB (European Central Bank) for taking or hinting at such actions, without regard for its consequences on other economies.

And Mr. Rajan, not too long ago (2003-2006), was the Director of Research at the International Monetary Fund, and at the annual US-Fed-hosted Jackson Hole gatherings of central bankers (before the Financial Crisis), voiced some doubts at the Fed's then policies, but was laughed out of court by Mr. Alan Greenspan (US Fed chair) and Mr. Larry Summers.

If BIS economists rightly claim credit for having cautioned before the Great Financial Crash, so did Rajan (and for that matter such economists like Dean Baker and a few others who warned much earlier about the US housing market bubble that brought the economy down, but were plain ignored.)

The BIS shows some awareness of all this, as in its call for international cooperation, though the path to such "cooperation" is not easy in a one-size-fits-all solution (of raising interest rates and austerity all around).

Even the IMF, which used to prescribe uniform structural adjustment policies -- budget-cutting, raising interest rates, currency devaluations etc -- has come around to change its views. Last year, in some coded language against austerity that was news to economists everywhere and understood by them but not noticed prominently by ‘mainstream media', the IMF said that fiscal multipliers are typically greater than one.

This meant that the IMF researchers had found, and were saying it officially, that austerity didn't work, though this understanding came to them only when Europe and eurozone economies found themselves in trouble (and not earlier, when only developing countries suffered the consequences of the IMF's uniform advice and conditional lending).

However, the solutions suggested by BIS -- raising interest rates, structural reforms etc, with resort to plenty of code words like budget balancing and fiscal ‘consolidation', infrastructure spending matched by cutting expenditures elsewhere (on social sectors?) and ‘labour market flexibility' (meaning ability to fire workers, void labour contracts and keeping their wages down), to increase profitability etc -- could, far from stimulating investments, in fact result in making the situation worse.

In a modern capitalist society, workers are also consumers, and when they are let go (through labour market flexibility and wage repression), to that extent consumption also gets reduced, and thus demand, and when there is no demand there will be no investment.

The BIS points with concern at the rising debt-to-GDP ratios which, though true, have been caused by rising debt, caused by borrowings to meet expenditures including rising defence expenditures, rather than raising taxes (in line with the prevailing dogma against taxation of incomes), and would rise even more with austerity policies.

Despite a pickup in growth, the global economy has not shaken off its dependence on monetary stimulus, and monetary policy is still struggling to normalise after so many years of extraordinary accommodation, says the BIS.

In pointing to this situation, there is little recognition that the US Fed with its monetary policy, had to step in, faced with refusal of Congress to undertake the necessary fiscal policies - both the entrenched economic policies favouring what has now come to be called the 1% of society, as well as the disconnect and even hostility in Washington between the Republican-controlled Congress and the White House and administration.

Despite the "euphoria in financial markets", investment remains weak, BIS notes. Instead of adding to productive capacity, "large firms prefer to buy back shares or engage in mergers and acquisitions. And despite lacklustre long-term growth prospects, debt continues to rise. There is even talk of secular stagnation."

The 84th Annual Report also points to lagging productivity growth - though without a better share of benefits of productivity to the workers, it is difficult to see how investment can grow in a consumption-driven economy.

While thus laying its finger on the symptoms, the BIS economists stop short of pointing to the root causes. And in advocacy, though not in plain language, of policies of austerity - such as balancing the budget, with government spending on ageing infrastructure, by cutting back in other areas etc, the realities of a capitalist economy is not alluded to.

In a modern capitalist society, workers are also consumers, and when they are let go, to that extent consumption also gets reduced, and thus demand, and when there is no demand there will be no investment.

And the so-called "free market" functions not only on the basis of ‘risks' and ‘rewards', but also on certainty that criminality will result in punishment. There is little doubt left now that a great deal of the ‘Great Financial Crisis' was the result of criminality at big financial firms where bosses turned a blind eye to what was going on in their firms - on the trading floors and elsewhere, so long as it raked in obscene take-home emoluments for themselves. And while some minor traders and some external ‘players' have been jailed, none of the bosses of major firms rescued by public funding have been touched.

And underlying all this is the fact that finance, instead of oiling the wheels of the real economy, has now ended up by financialising the economy (speculative buying and trading etc), accounting for a substantial part of the national GDP. And while BIS warns about the dangers of protectionism in trade and investment, it does not focus (until the US Fed governor Daniel Tarullo, recently, even the US Fed did not pay sufficient attention to what was being done on the trade front on financial liberalisation) on the drive for further financialisation of the economy via trade in financial services (whether via WTO-GATS or the proposed Trade in Services Agreement).

And with the spread of ‘democracy' and governments having to face periodic elections, when public policy runs counter over long periods to the people's perception of wellbeing, either governments and policies change or there will be widespread social disorder, even if there is no revolutionary leadership in ruling classes to change course.

(* Chakravarthi Raghavan is the Editor Emeritus of the SUNS.)