Short-term Policy Effect and Long-term Market Force
The fundamental problem facing policymakers, academic researchers or market participants are to discern short term policy effects from long term market forces and to address them in a coordinated way. As inflation rears its head all over the world, it is feverishly debated that whether recent inflation will be persistent given increasing food or commodities prices and energy costs or it is just a short-term blip. The problem has not become easier to determine despite the unprecedented speed of information communication and ever increasing amount of data available to us.
The reason for the difficulties of recognizing the source and nature of the problem is because it is a combination of both short-term policy consequences and long-term market forces at work.
Many people, including myself, view that the recent across-the-board surge of prices is largely due to the loose monetary policy prescribed not only by the Fed but by many other central banks of both developed and developing economies. However, that does not mean that the problem is simply a result of the wrong policies on the part of the central banks. It would be relatively easy to solve the problem if the central banks held the key to lock in the inflation animal. Unfortunately, the problem is too big to be handled by the central banks alone.
The current inflation problem is more of a reflection of the fundamental structural problems of the world economy which entails a chain of issues such as globalization, reallocation of production factors, environmental and resources problem. When the major economies around the world stall and face rising costs, policy synchronization is desperately needed but is hardly seen today—without which inflation is hard to be tamed and economic growth misses its launch pad. Against this backdrop, monetary policy without coordination and clear objectives has very limited effects. Lip services of central bankers’ will just have effects lasting by days, if not by hours. It is even shorter than what we can expect.
I wrote not too long ago that the Fed had to take actions to deal with global inflation before oil price shoots above $150 a barrel. But I do not expect that the Fed has such a courage or political guts to raise interest rates given the state of the economy as what it is now, especially at this juncture of time when the general election in the US is five months away. The Fed, for one reason or another, is not willing to sacrifice the economy or employment for a more balanced economic structure. The same conclusion can be applied to almost any other monetary policy authorities in either developed or developing economies.
It is a very tough environment in which the central banks are operating now. The maneuvering space is limited; and the leverage of growth engine is broken. No matter what actions or words that the central banks of the US, Canada, Britain or the EU deliver to the market, they can neither spice up the growth expectation nor fence off inflation—because no matter what they do, they are not addressing the fundamental problems facing the world economy.
Short-term policy will work best when it is aligned with the economic forces to streamline and optimize the resource utilization. This means that economic policies will not always aim at promoting growth. Rather, they are designed to optimize the economic structure and sustainability. Unfortunately, such optimality is rare and hard to achieve when we have too many short-term “fixes” and no long-term vision or policy coordinations. The consequences of the conflicting economic policies against economic rationality would be more damaging in today’s world where globalization and economic integration become more pronounced than ever. In this case, short-term policy will be powerless when confronting market force—in the long term.
