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Global debt levels have reached dangerous extremes and central bankers no longer have the ammunition to counter a financial crisis, a top cast of officials warned in Davos.
Kristalina Georgieva, head of the International Monetary Fund, said there are disturbing signs of an asset bubble and acknowledged that the side-effects of ultra-low interest rates and quantitative easing are becoming more treacherous.
“When people talk of ‘low for ever’, it sends a chill down my spine. We’re only in January and we have already had a number of risk events,” she said, speaking at the World Economic Forum.
Mrs Georgieva said global debt has mushroomed to $188 trillion but even this has still failed to lift the major economies from the deflationary danger zone. Much of the stimulus has leaked out into asset markets and fed an indiscriminate hunt for yield.
“In some low income countries debt at levels are higher than before the global crisis. It requires all of us to think about unintended consequences,” she said.
François Villeroy de Galhau, governor of the Bank of France, said the European Central Bank cannot continue to hold up the heavens on its own. “We need fiscal stimulus. I would like us central bankers to become less central because we cannot solve the remaining challenge,” he said.
Kristalina Georgieva, head of the International Monetary Fund, said there are disturbing signs of an asset bubble Credit: REX
Klaas Knot, head of the Dutch central bank, said people must stop expecting central bankers to save the day. “Phrases like ‘the only game in town’ are the kiss of death. There is going to have to be a much bigger burden for fiscal policy.”
Yet the EU’s Stability Pact and Fiscal Compact remain legally embedded in the eurozone structure. French calls for a “fiscal entity” or EU treasury to buttress monetary policy have been quashed by Germany. Counter-cyclical fiscal stimulus on a decisive scale remains all but impossible, at least until a crisis is fully underway.
The ECB’s policy rates are already minus 0.5pc and may be hitting the “reversal rate” where they do more harm than good, eroding the net interest margin of lenders and causing households to save even more. The ECB was forced to restart QE in September but there are limits to how far this can be pushed under the Lisbon Treaty.
Harvard professor Carmen Reinhart, author of This Time It’s Different: Eight Centuries of Financial Folly, said central banks saved the world from a 1930s car crash after the Lehman debacle but have now become entangled in a trap.
“Lower for longer is a transfer of money from savers to borrowers. The gap between low policy rates and the ‘actuarial’ interest rate required for the health of pensions is chronically wide,” she said in Davos. The implication is a slow disguised default on future pensioners, with insidious social consequences.
She warned that easy money has led to a surge in all kinds of risky lending, especially “cov-lite” leveraged loans packaged as securities (CLOs) and sold with minimal creditor protection – which mechanically means a much higher loss rate if things go wrong. “The quality is deteriorating and there are a lot of similarities with early subprime,” she said.
Prof Reinhart said the next recessionary shock will cause heartburn for the policy class, even in the US. The Federal Reserve has cut rates by an average of 600 basis points over the post-War era to fight downturns.
It currently has just 150 basis points to play with, since it will not go to zero for fearing of destabilising the US money market industry. “Will central banks be able to get their economies going again? I have my doubts,” she said.
“Risks are out there, no question about it,” said Christine Lagarde, the ECB’s new president. One of them is a US-EU trade war and fall out from Donald Trump’s phase one deal with China, which imposes managed trade flows at the expense of European exporters. “There is trade diversion. We at the ECB are measuring where the chips will fall, and who will lose.”
The Brexit shadow still looms large. “We still have a possible cliff-edge in December 2020: we don’t know what the relationship will be exactly,” she said.
Olaf Scholz, Germany’s finance minister, played down Brexit risks, arguing the amicable conclusion of the Withdrawal Agreement ensures that future talks will take place in a more cooperative spirit. “It was not a hard Brexit and the next part will be not so dramatic,” he said.
Mr Scholz said the earlier skirmishes alarmed investors and had serious effects on business confidence. So long as this is not repeated over coming months the tensions can be defused. “It will not have a big impact,” he said.
“It will be more difficult for the UK because things will be different. If you leave the EU, you leave; you don’t have all the advantages of being in, and the advantages of being out. You cannot have a special competitive advantage from being out,“ he said.
How Germany intends to preserve its £45bn trade surplus with the UK and its supply chains while also imposing trade barriers – if Britain refuses to accept all EU demands for regulatory alignment – was left unsaid. If “out is out”, Germany is in a sense out of the UK market. This contradiction in EU policy-making has yet to be confronted seriously.
Global debt levels have reached dangerous extremes and central bankers no longer have the ammunition to counter a financial crisis, a top cast of officials warned in Davos.
Kristalina Georgieva, head of the International Monetary Fund, said there are disturbing signs of an asset bubble and acknowledged that the side-effects of ultra-low interest rates and quantitative easing are becoming more treacherous.
“When people talk of ‘low for ever’, it sends a chill down my spine. We’re only in January and we have already had a number of risk events,” she said, speaking at the World Economic Forum.
Mrs Georgieva said global debt has mushroomed to $188 trillion but even this has still failed to lift the major economies from the deflationary danger zone. Much of the stimulus has leaked out into asset markets and fed an indiscriminate hunt for yield.
“In some low income countries debt at levels are higher than before the global crisis. It requires all of us to think about unintended consequences,” she said.
François Villeroy de Galhau, governor of the Bank of France, said the European Central Bank cannot continue to hold up the heavens on its own. “We need fiscal stimulus. I would like us central bankers to become less central because we cannot solve the remaining challenge,” he said.
Kristalina Georgieva, head of the International Monetary Fund, said there are disturbing signs of an asset bubble Credit: REX
Klaas Knot, head of the Dutch central bank, said people must stop expecting central bankers to save the day. “Phrases like ‘the only game in town’ are the kiss of death. There is going to have to be a much bigger burden for fiscal policy.”
Yet the EU’s Stability Pact and Fiscal Compact remain legally embedded in the eurozone structure. French calls for a “fiscal entity” or EU treasury to buttress monetary policy have been quashed by Germany. Counter-cyclical fiscal stimulus on a decisive scale remains all but impossible, at least until a crisis is fully underway.
The ECB’s policy rates are already minus 0.5pc and may be hitting the “reversal rate” where they do more harm than good, eroding the net interest margin of lenders and causing households to save even more. The ECB was forced to restart QE in September but there are limits to how far this can be pushed under the Lisbon Treaty.
Harvard professor Carmen Reinhart, author of This Time It’s Different: Eight Centuries of Financial Folly, said central banks saved the world from a 1930s car crash after the Lehman debacle but have now become entangled in a trap.
“Lower for longer is a transfer of money from savers to borrowers. The gap between low policy rates and the ‘actuarial’ interest rate required for the health of pensions is chronically wide,” she said in Davos. The implication is a slow disguised default on future pensioners, with insidious social consequences.
She warned that easy money has led to a surge in all kinds of risky lending, especially “cov-lite” leveraged loans packaged as securities (CLOs) and sold with minimal creditor protection – which mechanically means a much higher loss rate if things go wrong. “The quality is deteriorating and there are a lot of similarities with early subprime,” she said.
Prof Reinhart said the next recessionary shock will cause heartburn for the policy class, even in the US. The Federal Reserve has cut rates by an average of 600 basis points over the post-War era to fight downturns.
It currently has just 150 basis points to play with, since it will not go to zero for fearing of destabilising the US money market industry. “Will central banks be able to get their economies going again? I have my doubts,” she said.
“Risks are out there, no question about it,” said Christine Lagarde, the ECB’s new president. One of them is a US-EU trade war and fall out from Donald Trump’s phase one deal with China, which imposes managed trade flows at the expense of European exporters. “There is trade diversion. We at the ECB are measuring where the chips will fall, and who will lose.”
The Brexit shadow still looms large. “We still have a possible cliff-edge in December 2020: we don’t know what the relationship will be exactly,” she said.
Olaf Scholz, Germany’s finance minister, played down Brexit risks, arguing the amicable conclusion of the Withdrawal Agreement ensures that future talks will take place in a more cooperative spirit. “It was not a hard Brexit and the next part will be not so dramatic,” he said.
Mr Scholz said the earlier skirmishes alarmed investors and had serious effects on business confidence. So long as this is not repeated over coming months the tensions can be defused. “It will not have a big impact,” he said.
“It will be more difficult for the UK because things will be different. If you leave the EU, you leave; you don’t have all the advantages of being in, and the advantages of being out. You cannot have a special competitive advantage from being out,“ he said.
How Germany intends to preserve its £45bn trade surplus with the UK and its supply chains while also imposing trade barriers – if Britain refuses to accept all EU demands for regulatory alignment – was left unsaid. If “out is out”, Germany is in a sense out of the UK market. This contradiction in EU policy-making has yet to be confronted seriously.
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