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Home >Opinion >Views >Let’s end this nonsense of taper tantrums by easy-money addicts

Between 11 March and 17 March, four major central banks held their monetary policy meetings: the European Central Bank (ECB), US Federal Reserve, Bank of Japan (BoJ) and the Bank of England (BoE). On the face of it, the most accommodative or dovish policy stance and communication emanated from the ECB. Silver goes to the US Fed, bronze to the BoE and a simple certificate goes to the BoJ. Japan’s central bank appeared (horror of horrors!) to give the impression that it was incrementally nudging policy in the direction of very slight restraint.

Words matter, but so do numbers, if not more. Ed Yardeni, an independent analyst, tracks the evolution of central bank balance sheets. In his latest analysis, dated 17 March, he does not consider the BoE as one of the major central banks, whereas he lists the People’s Bank of China (PBoC) as one. Excluding the PBoC, the annual growth rate of their balance sheets was 57.5% in February. Including the PBoC, it was 46.3%. So, China’s monetary policy stance is far more prudent than the rest’s.

There was something charmingly innocent in the press release of the US Fed after the conclusion of the two-day meeting of its Open Market Committee (FOMC). The panel would like to allow US inflation to run at an unspecified rate above 2% for an unspecified period, and yet would like to anchor public inflation expectations at 2%. One should not be surprised that American economist Larry Summers sees the US macroeconomic policy setting at its least responsible in 40 years.

Going forward, bond market maven Mohamed A. El-Erian outlines three choices for the Federal Reserve: “Trying to calm the yield concerns by signaling more purchases of securities, thereby risking yet another leg up in inflationary expectations"; “Doing nothing on forward policy guidance because yields are rising for the right economic reasons and the pickup in inflation will just be transitory, thereby risking a tantrum from a market conditioned to expect repeated policy reassurances in response to higher in volatility"; or “Signaling the potential start of a monetary policy taper given that significant fiscal expansion is in the pipeline to turbocharge a continuing recovery and substantial pent-up private demand exists, thereby risking disorder from markets always keen on ample and predictable Fed liquidity injections."

The first is what the FOMC did in its meeting last week and what it will continue to do, because a rise in inflationary expectations is something it wants. Up to a point, that is, but much more than what the consensus opinion of economists would expect or is able to imagine. If the Fed uses bond purchases to keep nominal rates from rising in line with inflation expectations, then real yields will go even more negative. That would be a welcome development for the Fed.

In any case, the Fed may be doomed if it signals a taper of its extraordinary easing of monetary conditions. Even though that is the right thing to do from a long-run perspective, the Fed is too far down the path of leverage and liquidity to risk it. Its chairman Jerome Powell tried and abandoned it in 2018. He now simply has only one prayer: “Let the s**t not hit the fan when I am there. It will, one day. Let it be when I am gone."

Both policymakers and markets are now in thrall to debt and liquidity. They have been captured or trapped by the debt that has been created since 2007. If they go for a ‘normal’ policy setting and normal real rates, they would be in trouble. The pain would be too acute for anyone to contemplate doing the right thing for the economy. Therefore, in general, major central banks will hope to ride out their policy choices from one meeting to the next between El Erian’s first two options.

Are bond and stock markets uneasy right now because they want a return of normal monetary policy? No, they want a reassurance that the Fed’s ‘put’ option of Alan Greenspan’s vintage is firmly in place. They don’t want just a verbal assurance, they want to see the Fed walk its talk by cranking up asset purchases quantitatively and qualitatively. Once an addict is used to a particular dosage, it ceases to provide the desired delirium after a while. The dosage has to go up. That is what we are witnessing now. Both the drug dealer and addict are locked in their respective modes of behaviour. They will not change it on their own volition. Only accidents will, and they do happen. Like Greensill.

So, let us be clear. We are currently seeing a tantrum, but it’s not for policy tapering; nor will monetary policy taper and dare provoke a bigger tantrum. This is a different kind. It is silly to think that financial markets are clamouring for sobriety and prudence among policymakers.

What it means is that capital flows into reasonably stable emerging economies from foreign jurisdictions will be ample in the coming years. Gross foreign direct investment equity inflows into India totalled $51.47 billion from April to December 2020, the highest in two decades. That it happened despite an economic contraction is noteworthy.

India is batting on a good wicket. Rash strokes must be avoided. Keep a calm head, and the runs will come. More on that in subsequent columns.

V. Anantha Nageswaran is a member of the Economic Advisory Council to the Prime Minister. These are the author’s personal views.

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