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Economic Growth Must Slow, Warns BIS

27 June, 2011

Global economic growth must slow to curb inflationary pressure around the world, the influential central bankers’ bank has warned, saying that there was little or no slack left for rapid non-inflationary expansion.

In its annual report, the Bank for International Settlements said that with the scope for rapid growth closing, monetary policy should be quickly brought back to normal and countries should act urgently to close budget deficits.

The tough recommendations were urged on advanced and emerging economies alike from the BIS – the international organisation which came closest to predicting the 2008-09 financial and economic crisis – despite signs of weakening economic momentum this year.

The spike in energy prices has cooled the global economy since January and led to fears for the recovery, culminating in the International Energy Agency’s release of 60m barrels of oil in the coming month.

The BIS report, however, warned policymakers not to expect a normal recovery because much of the pre-crisis growth had been unsustainable and capacity will have been destroyed for ever, particularly in finance and construction.

Jaime Caruana, general manager of the BIS, said on Sunday that the imbalances caused by unsustainable growth before the crisis “now need to be rectified, and as they are, growth is bound to be slow. Policymakers should not hinder this inevitable adjustment.”

Rising food, energy and other commodity prices underscored the need for central banks around the world to begin raising interest rates, perhaps even more rapidly than they brought them down, said the BIS in its report. “Highly accommodative monetary policies are fast becoming a threat to price stability,” it concluded.

The fact that interest rates have been so low for so long also introduces new risks into the world’s financial system even though these policies were put in train initially by a desire to reduce risk, the report added.

“The persistence of very low interest rates in major advanced economies delays the necessary balance sheet adjustments of households and financial institutions,” the BIS said.

The BIS view runs counter to that of the Federal Reserve, its largest member central bank, which made it clear last week that its interest rates would remain extremely low for an “extended period”.

Its recommendations are closest to the policy of European Central Bank, which is expected to raise interest rates for a second time in early July. In a barb at the Bank of England, the BIS said inflation had persistently exceeded its 2 per cent target since the end of 2009, but that rates have not yet been raised in response. “One wonders how long its current policy can be sustained,” the BIS said.

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Economic Growth Must Slow, Warns BIS

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