The European Central Bank (ECB) chairman Christine Lagarde has issued a warning about the global economy’s present situation, drawing comparisons with conditions that catalysed the disintegration of worldwide commerce and the occurrence of the 1920s Great Depression, stemming from “economic nationalism”. She made note of how the current economic landscape has been fundamentally altered due to the concatenation of the most severe pandemic in a century, the gravest European conflict since the 40s, and the harshest energy disruption since the 70s, on top of persisting supply chain issues.
During her discourse at the International Monetary Fund’s event in Washington, Lagarde highlighted similarities that exist between modern times and the 1920s. She referred to advances in technology and deterioration in global trade in both periods. She also touched upon the fact that monetary policy adherence to the gold standard in the past had aggravated situations, leading to deflation and banking disasters. However, she affirmed our presently better positioned to manage these transformative changes.
Lagarde reflected on the lessons learnt by central bankers a century ago, when binding currency to gold and static exchange rates only intensified challenges during significant structural changes, resulting in deflation and economic instability, ultimately encouraging a cycle of “economic nationalism”.
Today, Lagarde explained, our resources used by central banks to retain price stability are far more beneficial, and this is evidenced in the rapid decrease in inflation when the central banks decided to hike up the rates this year. A wave of post-pandemic demand, through disturbance in the global supply chain and inflation of energy prices due to Russia’s full-scale discourse into Ukraine, resulted in an abrupt rise in consumer prices. She acknowledged this as an “extreme stress test” for monetary policy.
Recently, select easing of monetary policy was able to be executed by central bankers as a decline in cost pressures was observed. Despite reaching a high of 10.6 per cent in October 2022, annual inflation within the Eurozone fell to a three year nadir of 2.2 per cent in August.
In a noteworthy feat, central banks successfully regulated inflation within a period shorter than two years, while preventing an upswing in unemployment rates. According to Ms Lagarde, it is very unusual that an increase in employment didn’t come with a significant negative impact owing to rate hikes by central banks as a reaction to escalating energy costs. However, she highlighted that the European region witnessed an upturn of 2.8 million individuals in the workforce since 2022 came to a close.
On the other hand, ECB’s chief cautioned about becoming placid, considering potential challenges including globalisation impediments, a semi-fragmentation of worldwide supply chains, the dominating position of tech behemoths such as Google, and the swift progress of Artificial Intelligence. These factors, she warned, will invariably put central bankers to the test.
Ambiguity, according to Lagarde, will persistently “stay high” for those regulating monetary policy, adding further that a better mechanism to manage it is necessary. The imminent strategy review by the ECB will scrutinise these issues meticulously. Despite no discussions about the 2 per cent medium-term inflation target, she mentioned, “we will explore what lessons can be drawn from our previous encounters with exceedingly low and high inflation”.
Moreover, the ECB will delve into the evaluation and disclosure of various risks. For instance, a “balanced” baseline inflation scenario could be integrated with “real-time information” and the central bank could also reveal different scenarios. – Copyright The Financial Times Limited 2024