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Rate Hikes Are A Double-edged Sword For Central Banks

PARIS: To combat skyrocketing inflation, central banks throughout the world are rapidly hiking interest rates, risking bringing down the whole global economy.

As consumer prices reached new highs this year, the US Federal Reserve and its counterparts in Europe and the majority of emerging economies raised interest rates.

Higher interest rates, even if designed to slow the economy and reign in inflation, may cause a recession if borrowing costs for households and businesses become prohibitive.

“It reminds me of what used to happen in the Middle Ages: bloodletting,” Nobel laureate economist Joseph Stiglitz remarked, referring to the concept at the time that patients might be treated of maladies by making them bleed.

Unless a miracle occurred, the patient did not always heal after letting out the blood. They continued to haemorrhage, making the patient worse and worse,” Stiglitz said.

He voiced worries that central banks will conduct similarly presently.

Investors are anxious that the Federal Reserve will raise interest rates by a full percentage point this time, after two straight 0.75 percentage point increases. The Federal Reserve will publish its most recent monetary policy decision on Wednesday.

The Bank of England and its equivalents in South Africa, Sweden, and Switzerland are also expected to tighten their monetary policy at their own meetings this week.

No longer “temporary”

Consumer prices began to rise as a result of supply chain bottlenecks as firms attempted to keep up with an increase in demand after economies began to emerge from Covid lockdowns.

After routinely labelling inflation “transitory” last year, the Federal Reserve and the European Central Bank changed their tune this year as Russia’s invasion of Ukraine caused fuel and food prices to skyrocket.

Since then, central banks have practically synchronised their rate increases, raising concerns that their quick and severe reactions may now be more harmful than useful.

Did the economic slump really need to happen?

Inflation, according to Dor, hampered activity. Households are losing their purchasing power, wage increases are less than the rate of inflation, and inflation is stifling spending.

The probable economic damage was acknowledged by ECB President Christine Lagarde on Thursday.

Will there be a modest decrease in growth as a result? She admitted that possibility at a conference in Paris on Friday. Before we decide to take the risk, we must properly examine it.

US Treasury Secretary Janet Yellen indicated earlier this month that an economic downturn is “certainly a possibility.”

She did, however, note that the labour market in the United States is “exceptionally strong,” with more than two job opportunities for every job applicant.

“Wrong prescription”

The United States is still plagued by the ghost of inflation from the 1970s and 1980s, when it loomed over the nation for more than ten years.

A World Bank report released last week predicted that a worldwide slowdown coupled with tougher monetary policy might result in a global recession the following year, with particularly significant declines in emerging and developing nations.

While economists disagree on the root reasons of the price hikes, they do agree that the cure for inflation may be worse than the disease.

Demand isn’t the main issue, according to Stiglitz.

More fees, he asserted, would not help the global supply chain or increase food or energy output. Central banks all across the world are asserting or acting as though demand created inflation.

He said that higher rates would increase the cost of making the required investments to eliminate bottlenecks and raise rents in the United States, saying “using the wrong formula for the wrong diagnosis is receiving the wrong prescription.”

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