BIS calls for reversal of loose money policy, hints at austerity

The Bank for International Settlements’ policy proposals for invigorating the global economy address symptoms instead of causes and may bring about more harm than help, writes Chakravarthi Raghavan.

GENEVA: 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 the 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) at the hint of the US Federal Reserve’s reversal of asset purchases (the unorthodox policy 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 macroeco-nomists 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 three and four 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 are.)

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 the Reserve Bank of India, India’s central bank, Raghuram Rajan, took the unusual step (for a central banker) of publicly criticizing and berating the Fed and the European Central Bank for taking or hinting at such actions without regard for the consequences on other economies.

At an annual Fed-hosted Jackson Hole gathering of  central bankers before the financial crisis, Rajan, who was then Director of Research at the International Monetary Fund (IMF), had voiced some doubts over the Fed’s then policies, but was laughed out of court by Fed chair Alan Greenspan and Larry Summers.

If BIS economists had issued cautions before the Great Financial Crisis (and rightly claim credit for it), so did Rajan – and, for that matter, economists like Dean Baker and a few others who had warned much earlier about the US housing market bubble that would bring 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 changing its views. Last year, in some coded language against austerity that was news to economists everywhere but little noticed 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 eurozone economies found themselves in trouble (and not earlier, when only developing countries suffered the consequences of the IMF’s uniform policy advice and conditional lending).

Worsening the situation

The solutions suggested by the 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 a greater ability to fire workers, void labour contracts and keep 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 and demand also get reduced, and when there is no demand there will be no investment.

The BIS points with concern at rising debt-to-GDP ratios which, though true, have been caused by rising debt, caused by borrowing rather than raising taxes (in line with the prevailing dogma against taxation of incomes) to meet expenditures including rising defence spending, 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 normalize after so many years of extraordinary accommodation, says the BIS.

In pointing to this situation, there is little recognition, however, that the US Fed with its monetary policy had to step in when faced with the refusal of the US Congress to undertake the necessary fiscal policies – amid 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, the 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 BIS 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 their 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 – the realities of a capitalist economy are not alluded to.

And the so-called “free market” functions  not  only  on the basis of “risks” and “returns” but  also  on the 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 corporations 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. But 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 financializing the economy (through speculative buying and trading etc), accounting for a substantial part of the national GDP. While the BIS warns about the dangers of protectionism in trade and investment, it does not focus on the drive for further financialization of the economy via trade in financial services (whether via the WTO’s General Agreement on Trade in Services or the proposed Trade in Services Agreement). (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 liberalization.)

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. (SUNS7835)

Third World Economics, Issue No. 574, 1-16 Aug 2014, pp8-9