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Satyajit Das on Central Banks: Loose Lips Sink Economies


Some recent statements from central bankers risk destabilizing a very fragile financial system.

Fourth, it creates uncertainty and volatility, undermining the policies themselves.

Fifth, it points to the excessive influence of governments on markets. Successful investing now requires anticipation of official policy actions rather than traditional analysis of fundamental factors. In this environment, price signals are misleading, distorting resource and capital allocation.

Sixth, the process is undemocratic. Unelected officials, with limited accountability, can, by their words or actions, trigger large changes in prices and rates, affecting millions of citizens and businesses domestically, and in some cases, internationally. These policies can result in massive transfers in real wealth, redistributing employment, income, investments and savings between individuals in a country and between nations.

Seventh, it undermines crucial trust in institutions and policymakers.

Reliance on aggressive policies to resuscitate the global economy always risked blowback. In its 2012 / 2013 annual report, the Bank for International Settlements, the banker to central banks, highlighted the problem:

Central banks cannot repair the balance sheets of households and financial institutions. Central banks cannot ensure the sustainability of fiscal finances. And, most of all, central banks cannot enact the structural economic and financial reforms needed to return economies to the real growth paths authorities and their publics both want and expect.

What central bank accommodation has done during the recovery is to borrow time -- time for balance sheet repair, time for fiscal consolidation, and time for reforms to restore productivity growth.

Regrettably, the purchased time may have not been used productively, creating new dangers for the global economy without having dealt with existing problems.

The global economy and financial system cannot escape the debt overhang and structural problems, at least without pain. Policymakers are now trapped between existing policies of decreasing efficacy and increasing toxic side effects and withdrawing these measures with uncertain consequences, potentially a complete collapse. The required balance sheet repair and simultaneous correction of public finances would result in a sharp fall in aggregate demand, exacerbating not solving the problem.

Given the current "sea of troubles," the high stakes, and limits to their power, central bankers, unable to confront reality, have lapsed into political spin and word games. In wartime, populations were warned that loose lips could sink ships. As recent events highlight, central bankers would do well to heed that warning, as loose talk may sink economics and destabilize a fragile financial system.
No positions in stocks mentioned.

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