The yob culture of Britain’s streets seems to have spread to several of the central banks. Those banks are behaving like gangs of brutish, feral fifteen-year-olds who egg each other on, claiming “respect”, by knocking down elderly passers-by and kicking the life out of them.
— Bernard Connolly, chief global strategist and head of research, AIG London.
In his piece previewing the G8 finance ministers meeting in Osaka over the weekend, Bernard Connolly went on to suggest that Jean-Claude Trichet, head of the European Central Bank is planning to impose 1930s-like conditions in the euro-area, and that Ben Bernanke at the Fed is prepared to impose some aspects of the 1930s, such as a stockmarket crash.
Bernard Connolly is renowned for his trenchant language, but his latest effort is way out there. I’ve read everything that Trichet and Bernanke have been saying and, well, I suppose Connolly’s is one way to look at it.
It’s certainly true that at Trichet’s press conference following the June 5 decision by the ECB not to raise interest rates, he was pretty clear that interest rates are going up.
In the opening statement he said:
It is imperative to secure that medium to longer-term inflation expectations remain firmly anchored in line with price stability. All parties concerned, in both the private and the public sector, must meet their responsibilities. Broadly based second-round effects stemming from the impact of higher energy and food prices on price and wage-setting behaviour must be avoided.
Later in the press conference he added:
On second-round effects, again, our message is clear. We consider it is of the essence that we do not have those phenomena.
Last night the president of the Richmond Federal Reserve, Jeffery Lacker, supported Trichet’s stance in a speech in South Carolina:
Just as easing policy aggressively in response to emerging downside risks made sense, withdrawing some of that stimulus as those risks diminish makes eminent sense as well.
Currency markets don’t know which way to turn. The US central bank seems to be positioning for a tightening of monetary policy, and futures markets have put the Fed down for two hikes this year, yet all expectations that G8 finance ministers meeting in Japan on the weekend would come out in support of the US dollar were dashed.
The G8 communique yesterday was pretty anodyne, but if anything it supported the Trichet line. As a result the US dollar has fallen.
Economic bears, like Gerard Minack of Morgan Stanley (and yours truly) think the idea that rates can go up around the world this year is complete madness, and that futures markets that are pricing in two or three hikes in the US, UK and Europe have lost the plot.
I think Trichet is affected by the propensity of businesses in Europe to index their workers’ wages to the CPI and as a result is on heightened alert over inflation expectations.
In his press conference he explained that there were lessons from the first oil shock in 1973:
One of the major similarities of course is that we must avoid unanchoring inflation expectations…
He went on to say that in Europe you can date from the first oil shock the start of much lower growth and mass unemployment. He didn’t explicitly draw the link, but it was clear from his remarks that he thought this was largely about wage indexation.
Jeffery Lacker also talked about this last night, saying that inflation expectations are “higher than I would like”, but at this stage in the US there are “no signs of a wage price spiral”. (Lacker, by the way, would like an inflation target of 1.5 per cent, but no one will let him have it).
There are no signs of a wage spiral in Europe either, although inflation expectations are gradually rising everywhere and, by golly, the men that Bernard Connolly calls central banking yobs are going to kick the living expectations out of it anyway.
Connolly thought the finance ministers meeting in Japan at the weekend would put the central bankers in their box since they had over-reached themselves by putting the entire global financial system at risk. But that didn’t happen.
We stand at an interesting crossroads in economic history.
Last night the governor of the Bank of England, Mervyn King, warned that banks are still conserving capital and are not lending to each other, and that the credit crisis is still far from over.
The second round effects of the credit crisis are still rolling through most of the world’s economies, and are being exaggerated by the rise in fuel prices. Consumer sentiment everywhere has collapsed.
Meanwhile central banks are more worried about the second round effects on inflation of the oil price increase, and appear ready to act, trigger-happy even.