The ECB Forum on Central Banking begins on Monday in Sintra, Portugal, and will last until Wednesday.
The gathering hosts 150 central bank governors, academics, financial journalists and high-level financial market representatives. At the heart of their debate will be interest rates. That includes most of the G7 bankers, including the British, Japanese, and Canadian.
For over a decade, Central Bankers have been trying to revive anemic inflation, dealing with various deflationary pressures including the recession, subdued commodity and energy prices, declining incomes, and record high unemployment. But, the nature of the debate is changing as the US economy is reviving, the Eurozone appears to be following, and the UK is dealing with inflation well above the 2% target rate.
The Interest Rate Debate
Germany is exerting pressure on the ECB to begin unwinding the bond-buying programme, as a first step before beginning to consider raising interest rates. The issue is especially pressing for Germany and the Netherlands, where the economy is buoyant and has the biggest number of savings in Europe.
Mario Draghi’s has repeatedly affirmed that the €2.3 trillion bond-buying programme should be given a chance to run its course at least until the end of 2017, before unwinding in 2018. The problem at hand is that economic recovery could be undermined in highly indebted Eurozone countries, such as Portugal, Spain, Italy, and to a lesser extent France.
Inflation in May in the UK reached 2,9%, a result mainly of the pound’s devaluation. That is a 30-year high, and there are at least three of the eight-member of the Bank of England board that are pressing for an interest rates rise. Politically, the problem is that raising interest rates may create additional turbulence in a market that is already shell-shocked by Brexit negotiations and political instability.
Meanwhile, the Bank of Japan is not likely to consider an interest rate rise as the bond-buying programme has had little effect in raising inflation anywhere near the 2% target.
The US is going through with interest rates hikes, while Canada has signaled it will be following through.
Feeling the Bankers’ pressure
While central bankers focus on overall economic performance, the banking sector is pushing for an interest rate rise. The Basel-based Bank of International Standards (BIS) – and the umbrella organization of leading lenders – warned ahead of the Sintra meeting that now is the time to begin unwinding.
In its annual report, BIS is in effect arguing that 2% inflation is too high a target and the world will have to learn to live with lower levels of inflation as new technologies and working practices increase unemployment and suppress income. The primary concern is the US dollar, which has been a major source of cheap liquidity, fueling credit in emerging markets.
BIS also argued that central banks should move to prevent a sudden rise in inflation that would heart growth and encourage protectionism, Reuters reports.
What the BIS report is not explicitly saying is the pressure on the “fixed income” sector, from insurance to pension funds, which have seen their profit margins subdued for nearly a decade.