The ghost of recession shelved most of the bold initiatives to trim leverage and buttress liquidity in the banking industry. Macroeconomic imbalances broadly shifted from private to public sector, as governments addressed low growth through the old recipe of bloating expenditure. Concern on public debt sustainability forced central banks to step in, taking over the task of invigorating demand.
Saving the day through cheap money policies is already leading to a thorny dilemma. Monetary conditions seem need a gradual stiffening to prevent inflationary pressures from building up. Yet, any switch may lead the markets to overshoot jeopardizing the chances of a solid recovery. The quick reversal of hot capital flows that used to flood the emerging countries could gather momentum, sparking off a global crisis. The rapid deterioration of their currencies stands as a warning signal of the potential disaster looming ahead.
In many ways we are back to square one. Artificially low interest rates in the developed countries has fuelled a renewed appetite for riskier assets outside their boundaries. They have exported a huge financial bubble to emerging economies, eager to take up the opportunity of a free ride in fostering development. Now they find themselves exposed to a huge upheaval should living on credit become out of reach. A dismal scenario similar to the one faced by Asian economies in the 90’s.
While Europe looks for the faintest evidence hinting the worst might be over, the global economy is turning more unstable as the massive liquidity boost undertaken by the Fed will sooner or later face the pressing need of being reabsorbed. A process likely to prompt a huge deleverage and a severe credit crunch in the emerging countries, shattering growth prospects around the world. There is no way of escaping unscathed when you indulge in such blatant imbalances.
Taking the punch bowl away when you feel the party gets really moving stands as the key and most delicate task a central banker is bound to perform. Let’s cross fingers and hope the Fed Chairman, whoever he or she might be, will be up to the job.