March 25, 2023

The Federal Reserve’s deputy commander said the US central bank paid attention to the turmoil in global markets over the tightening of monetary policy, but emphasized that interest rates still need to rise to fight inflation.

Fed vice-chairman Lael Brainard acknowledged that rate hikes around the world — a move largely led by the Fed — would affect highly indebted emerging markets, with rapidly rising interest rates causing instability.

“As monetary policy tightens globally to combat high inflation, it is important to consider how cross-border spillovers and spillbacks could interact with financial vulnerabilities,” Brainard said Friday. She added that the Fed was “vigilant” about such vulnerabilities, which “could be exacerbated by the advent of additional adverse shocks”.

At the same conference, co-hosted by the Fed and its New York office, Agustín Carstens, chief executive of the Bank for International Settlements — the umbrella body for central banks — urged policymakers to stick to their campaigns to increase monetary policy. tightening policy.

“If you’re flying a plane, there can be some turbulence” [but] you don’t abort the direction of your flight unless you are really confronted with something totally unexpected,” he said.

The Fed is considering implementing what would be its fourth consecutive 0.75 percentage point rate hike at its next policy meeting in November. More broadly, the round of rate hikes and bond sales by central banks around the world has led to a rise in borrowing costs and a withdrawal of risky assets such as stocks.

Emerging market equities have fallen 29 percent in dollar terms this year, putting them on track for the biggest drop since the global financial crisis in 2008, according to a broad measure from index provider MSCI. The index of the currencies of the company’s developing economies is down 8.4 percent this year.

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Global financial markets have also been spoon-fed this week amid turmoil in the UK over the government’s tax cuts and loan plan, as well as wider concerns about how aggressive the Fed will have to be to deal with the worst inflation problem in four decades. exterminate.

Asked about the UK’s fallout this week, Carstens said fiscal and monetary policy must be coordinated and have some “congruence”.

In the same panel, Claudia Buch, vice president of the German Bundesbank, said the situation also underscores the need for “monitoring the entire financial sector” to identify potential risks.

Cartstens said, “We need to develop the discipline to act more forcefully in times of peace.”

A major concern for policymakers is the implication of rapidly rising interest rates for highly indebted countries and companies.

The IMF and other multilateral organizations have repeatedly warned of the acute risks facing emerging and developing economies, many of which are saddled with large debts, whose maintenance costs have risen as global interest rates have risen.

In her comments, Brainard said fears about debt sustainability could fuel a “deleveraging dynamic” such as asset sell-offs in countries with high government or corporate debt.

But she underlined the Fed’s commitment to “prevent pullback” from higher interest rates.

In August, the Fed’s preferred inflation gauge — the leading personal consumer spending price index — rose 0.6 percent and is now running at an annual pace of 4.9 percent. This compared to the inflation target of 2 percent.

Brainard warned that the risk of additional inflation shocks “cannot be ruled out” and emphasized that the Fed met regularly with its counterparts around the world to “account for cross-border spillovers and financial vulnerabilities in our respective forecasts, risk scenarios and policy consultations”.

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The Fed vice-chairman reiterated that she should “at some point” consider whether monetary tightening went too far. She argued that the effects of the policy would take some time to seep through the economy and that there was a lot of uncertainty about how far interest rates should rise.

Brainard highlighted the impact of tighter US monetary policy on demand for foreign products, meaning those countries’ economies are being held back not only by domestic interest rate hikes, but also by reduced US demand for their goods.

“The same is true vice versa: Tightening in major jurisdictions abroad amplifies US tightening by dampening foreign demand for US products,” she added.