We Are Not Out of the Woods Yet: Agustín Carstens

While economic disaster was averted, the BIS warns that considerable uncertainty remains that will present significant challenges for policymakers.

The BIS (Bank for International Settlements) has issued a new report warning of continued uncertainty in global markets and the significant challenges that remain for policymakers.

Amid the pandemic, economic disaster was averted, and the global economy bounced back more quickly than expected, the BIS said in its Annual Economic Report 2021.

Much of this reflected unprecedented macroeconomic policy accommodation, ample fiscal support, asset purchase programmes, and refinancing facilities for banks – which together kept financial markets stable and funds flowing to the real economy, the report says.

These actions also helped households and firms, keeping unemployment low and household income up, while bolstering corporate bottom lines and shielding firms with additional financing and loan guarantees.

Corporate bankruptcies did not spike as was earlier predicted, and scarring of households and firms was limited. However, issues such as corporate insolvencies and capital and labour reallocation are expected to come to the fore in the coming year.

“While the recovery is under way and the central scenario is relatively benign, we are not out of the woods yet,” said Agustín Carstens, General Manager of the BIS. “Considerable uncertainty remains.”

The report presents a central scenario for the recovery with a temporary increase in inflation, along with two more challenging scenarios.

In the first additional scenario, large fiscal stimulus and a drawdown of accumulated savings result in stronger growth but also higher inflation and a substantial tightening in global financial conditions.

In the second, growth disappoints as the virus proves harder to control. In this scenario, countries with more limited policy headroom would be the hardest hit, corporate sector losses would surge, and some banking systems could face strains.

“Markets could be caught wrong-footed, adjusting strongly if they anticipate a monetary policy tightening, even if inflation increases prove temporary in the end,” Carstens said, adding that a disorderly unwinding of leveraged positions could also generate stress.

In the face of these uncertainties, macroeconomic policy faces many near-term challenges, the BIS warns. Monetary and fiscal policies will need to provide support while remaining flexible and retaining policy headroom.

The low interest rate environment and high debt levels make this a challenging task. According to the report, raising potential growth through structural reforms is essential, and fiscal support will need to become more targeted to avoid cliff effects and unnecessary corporate insolvencies.

Normalising policies over the longer term will not be easy, Carstens said. Monetary policy normalisation will have to be very gradual.

The Annual Economic Report 2021 is published here.

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