Higher US interest rates have strengthened the dollar and exacerbated inflation elsewhere by raising the cost of commodities, which are more often than not priced in the dollar.
A “reverse currency war” is in full swing, with monetary authorities around the world now scrapping their standard quarter-point gains in favor of 50.75 and – in the case of Sweden and Canada – 100 basis points to contain the dollar declines .
Rate hikes, while necessary to quell inflation, have become so aggressive that the World Bank warned last week that they risk sending the global economy into a devastating recession, putting the world’s poorest countries at risk of collapse.
The World Bank now described the situation as akin to the early 1980s, when the rise in global interest rates and the collapse in world trade fueled the Latin American debt crisis and a wave of defaults in sub-Saharan Africa.
That comparison is correct. Since the global financial crisis of 2008, the Fed and other major market central banks have deployed wave after wave of stimulus. As a result, global interest rates remained at ultra-low levels for years. The result of that – plus the pandemic – is that international debt levels are close to all-time highs.
As borrowing costs rise, more and more of the world’s poorest countries are turning to the IMF and World Bank for support. China, meanwhile, is providing emergency aid worth tens of billions of dollars to countries such as Sri Lanka, Pakistan and Argentina, causing unrest among Western creditors, who view the bailouts as opaque and claim they are abandoning states to Beijing.
Some economists want greater awareness of the spillover effects of their monetary policy and more international cooperation.
Raghuram Rajan, a professor at the Booth School of Business at the University of Chicago and former head of India’s central bank, said: “If a poorer country borrows too much in good times because global interest rates are low, what responsibility do the US then? why? Doesn’t it have one? We have to find a middle ground.”
Still, it’s hard to see what the US central bank can do other than raise interest rates. When asked about the global ramifications of the Fed’s actions on Wednesday, Chairman Jay Powell noted that while he was aware of what was going on elsewhere, he had a mandate to lower domestic inflation and create domestic jobs. to protect.
Its economic forecasts clearly show that the Fed believes the best way to fulfill that mandate is to impose another 75 basis point hike at its next meeting, followed by another 50 basis point hike before the end of the year. the year.
As Mohamed El-Erian, president of Queens’ College, Cambridge, acknowledges, the consequence of the Fed’s reluctance to withdraw its aggressive monetary policy support until it was too late has left us “deep into the world of second and third best solutions.” ” posted. .
No matter how harmful the consequences, there are no measures that are not without harmful side effects.
Daniela Gabor, a professor at the University of the West of England, has referred to an era of zugzwang central banking. The toxic combination of persistent inflation and slowing growth has left officials facing a situation common to lucky chess players – left with nothing but bad moves to play.
With inflation in the US still looking visibly tacky, rising borrowing costs seem the least bad.