Mohammed Al Ahmad*
One of the tasks of all central banks, without exception, is to manage economic growth and inflation in proportion to their objectives. Central banks use several monetary tools they have in order to achieve this, including the classic “interest rates” or unusual tools such as “monetary easing” of its various types. Many central banks around the world began raising interest rates and reducing monetary easing programs since December of last year 2021, and the Bank of England was the first among the banks of the great countries, which headed for a rate hike.
The Bank of England raised interest rates from 0.1% to 1.25%, the US Federal Reserve raised interest rates from the range of 0.00%-0.25% to 1.50%-1.75%, and the Reserve of Australia raised interest rates from 0.1% levels to 0.85%, and the Reserve of New Zealand also headed to raise interest rates. Interest from 0.25% to 2.00%. Even the Swiss National Bank, which was not expected to raise rates, raised it from -0.75% to -0.25% surprisingly by 50 basis points in one go.
Next month, the European Central Bank will present the first interest rate hike since April 2012. Expectations indicate the possibility of raising interest rates by 25 basis points from the current zero level 0.00% to 0.25%, with the possibility of a further rate hike in September 2022, according to Previous statements by European Central Bank President Christine Lagarde.
Central banks face the challenges of high rates of inflation; Inflation in the United States, Britain and the Eurozone reached its highest level in more than 40 years. Even in Switzerland and Japan, inflation has risen to its highest levels since October 2014 for Japan and September 2008 in Switzerland.
A rate hike is the classic central bank remedy for high inflation, but on the other hand, raising interest rates may cause the economy to slow down. However, if central banks now have a choice, the cure for inflation may be much more important than if it were left to keep the global economy high in order to keep the global economy in the doldrums.
“Some pain will be inevitable,” the Bank for International Settlements said in its annual report, adding that if inflation takes hold, its negative effects will outweigh those of recession. Also in the report, the bank said that “central banks should not be shy about inflicting short-term pain or even recessions to prevent the arrival of a world characterized by persistently high inflation.”
The rapid rate hike has increased the chances of major economies falling into recession, and this is what US Federal Reserve Chairman Jerome Powell did not deny in his testimony before Congress last week, confirming the bank’s commitment to the goal of reducing inflation rates.
There is no doubt that decision makers in central banks know how dangerous the current levels of inflation are, as the memories of the eighties are engraved in history books, and they show how it was very difficult to get the economy out of the stagflation at that time, and the economic sacrifices at that time were enormous, and to prevent the economy from falling The world is in stagflation, central banks may have to weaken the economy.
The global economy is now in recession! Yes indeed, the economy is in a recession according to the definition of the World Bank and the International Monetary Fund, and not according to the classic definition of a recession as a contraction in the gross domestic product for six months. The International Monetary Fund and the World Bank define a recession as “the year in which an individual globally experiences a decline in his real income,” which was used to describe what happened in 1975, 1982, 1991, 2009, and 2020.
The inevitable result of a deliberate weakening of economic growth is a decrease in the rate of inflation, as long as the economic recession as well as the economic slowdown is accompanied by a decrease in the rates of inflation. , which facilitates lower inflation rates.
The entry of the global economy into a recession or an economic slowdown is a bad thing, but it may be an option to avoid the worst. If the global economy falls into an inflationary stagnation, as happened in the seventies and eighties of the last century, it will be very difficult to rebalance the economy, and it may take years to fully treat this situation. However, the treatment of economic stagnation may be easier, as history indicates that periods of economic stagnation are followed by the return of gradual, regular growth.
We may see a “slight” increase in unemployment rates, and we may see a decrease in income, and credit may decrease. However, does this not remind us of the side effects of a drug for a disease?! These “temporary” side effects may mean that the world will avoid the worst, which is stagflation.
* Founder and Managing Director of the Equity Group in the Middle East and Africa