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The Federal Reserve (Fed) is widely expected to announce another rate hike on February 1st. Statements from the Federal Open Market Committee (FOMC) and Chairman Jerome Powell’s post-meeting press conference are dissected in detail for endless debates about the future. The Federal Reserve’s actions start all over again.
The media circus around short-term policy changes is a good setting, but it’s time to consider the long-term challenges facing central banks. Debating whether the final rate in the current rate hike cycle should be slightly above or slightly below his 5% is debatable. It is enough that the Fed is rapidly approaching the end of the rate hike cycle. (Frankly, the period during which the rate remains at a high level is more important.)
Longer term, the growing likelihood that the Fed and other major central banks will face a more fundamentally volatile environment over the next few years than they have experienced over the past 40 years is a major concern.
Between 1984 and early 2020, the degree of volatility associated with output growth and inflation was very low for the most part. Even the financial crisis of 2008-2009 and the resulting Great Recession were only temporary spikes in macroeconomic volatility. Indeed, the period from June 2009 to February 2020 was characterized by subpar growth and subdued inflationary pressures, but the US experienced its longest economic expansion.
The underlying causes of the so-called “Great Moderation” are still debated by economists. Broadly speaking, in the economics literature he emphasizes three main candidates. Structural change, better monetary policy, good luck (reduced/reduced exogenous shocks and favorable developments on the supply side).
Globalization and technological change, along with institutional changes and evolution of business practices, played a role in driving structural change in both the U.S. and global economies during the Great Moderation. Globalization has been able to act as a giant shock absorber, thus helping to mitigate macroeconomic volatility in some advanced economies.
Using modern information and communication (ICT) technologies, the establishment of efficient global supply chains that can integrate capital from the West with surplus labor from China and other emerging economies will dramatically increase global production capacity. expansion is now possible. Information technology-based outsourcing/offshoring to low-cost destinations has also brought significant cost savings to Western multinationals.
Further, an essay by the Federal Reserve Board points out: For example, manufacturing tends to be volatile, so a shift from manufacturing to services tends to reduce volatility. Another structural change is the adoption of ‘just-in-time’ inventory practices, which reduce inventory cycle volatility. Similarly, advances in information technology and communications have enabled firms to produce more efficiently and monitor production processes more effectively, thereby reducing the volatility of production and possibly reducing the volatility of real GDP. There is a nature. ”
On the other hand, many central bankers supported the idea that improving monetary policy was also an important factor. After the debacle of the 1970s and early 1980s, a hierarchical mandate (official or informally) there was a broad policy consensus in favor of establishing However, some are skeptical of the idea that improved monetary policy was primarily responsible for the Great Moderation.
European Central Bank’s Isabel Schnabel recently emphasized the role of energy supply. OPEC’s global market share fell from 53% in 1973 to 28% in 1985. This is because Mexico, Norway, and other countries have started producing large amounts of oil. The US ‘shale revolution’, which began at the turn of the century, has changed the oil market once again. As a result, it is estimated that the price elasticity of oil and gas supply has improved significantly. The rise of the United States as a large net exporter of energy has softened the impact of demand shocks on oil and gas prices over the past 15 years. ”
Economists continue to debate the underlying causes of the Great Moderation, but we may be headed for a new era highlighted by a resurgence of macroeconomic volatility. All of the major forces responsible for the Great Moderation are now beginning to reverse or dissipate.
The geopolitical landscape is fundamentally changing, and a period of heightened uncertainty and volatility is likely to continue. America and its closest allies are realigning their economic priorities to emphasize strategic autonomy and resilience of her chain of supply. A reassessment of global supply chains and a growing reliance on economic sanctions and protectionism increases the likelihood of partial deglobalization and the re-emergence of economic blocs.
Increased economic disruption could also be caused by more frequent and more severe weather-related shocks. Moreover, the green transition, while necessary, is likely to be a costly endeavor in the short to medium term, and inadequate energy buffers will expose the global economy to sudden supply-side shocks. increase.
We can no longer rely on favorable structural change, geopolitical tensions are rising and climate threats are growing. As a result, central banks face considerable challenges in their attempts to achieve monetary policy normalization. Moreover, past ultra-accommodative monetary policy stances (and resulting financial distortions) have significantly increased the global debt burden. This will further limit the ability of central banks to operate in the coming years.
Vivekanand Jayakumar is an Associate Professor of Economics at the University of Tampa.
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