In the past, the central banks were not stupid. When the rally was on the rise, they pressed the brakes with all their might. For example, in the autumn of 1972, the Bundesbank raised interest rates from 3% to 7% in the first nine months of the year. This, the central bank repeated in the late 1970s and early 1990s.
In the past, the US Federal Reserve took very heavy moves. Since the summer of 1979, it has raised the key interest rate at high pace, reaching a peak of 19%. Even former Fed Chairman Alan Greenspan, a central banker supporting a looser monetary policy, has continued to raise the key interest rate by 2 percentage points in one year to 6.5% at the beginning of the millennium.
The contrast from today could hardly be bigger. According to economic experts, the global economy today is in the late stages of its upsurge, precisely at this time of the cycle in which former central bankers have often pushed the brakes vigorously. But we do not see such an approach now.
The interest rates are record low and will remain in line with expectations: a zero-percentage point in the Eurozone and Japan. Even in the United States and the United Kingdom, interest rates have been rising steadily for years.
Particularly strange in this case is that after the deduction of inflation, the interest rates on the international capital market are even negative. There were similar moments in history, but they were the result of the two world wars.
Will it continue forever? Or is there an immediate increase in interest rates? Issues that will play a key role in the International Monetary Fund (IMF) autumn meeting and the World Bank on Thursday. So far, financial markets remain nervous. The fears of accelerating inflation and higher central bank interest rates have led to bond sales in the past week. This may mean that participants are sniffing a turnaround.
Previous periods of high interest rates began with accelerating inflation. By the end of the business cycle, the production capacity has become scarce. Business desperately seeks employees, wages are rising. Increased spending and high demand for goods and services led to higher prices, while central banks joined the game and raised interest rates.
This was the case in the 1970s and the reunification of Germany, when the Bundesbank, as we mentioned at the beginning, quickly raised interest rates. This also happened during the boom in the early millennium.
But at least since the financial crisis there has been a slight movement in wages and prices. The world seems to have entered a new era where overcapacity maintains low levels of inflation where weak trade unions and intense global competition limit wage growth. There was even a fear of deflation: a scenario in which price levels are falling and economic output shrinks.
And central banks maintained extremely low interest rates, even buying bonds for trillions of dollars, euros, yen and pounds. Some are still doing so today, including the European Central Bank (ECB), which bonds purchasing program is only due to end at the end of the year.
But now there are various signs that inflationary pressures are increasing.
Almost all of the West is ending the period of very low inflation. In US, Canada and the United Kingdom, consumer price inflation has reached 3% in recent months. In Germany (2.3%) and in the Eurozone as a whole (2.1%), prices also rise steadily.
In major emerging markets such as Mexico, South Africa, India and Brazil, inflation rates are currently between 4% and 5%. In some countries the high debt and rising US interest rates cause monetary crises, such as Argentina (34% inflation) and Turkey (24%).
In countries, where the economy is growing, including Germany and the US, the lack of staff is so strong that wages are rising faster than in previous years. In Germany, a quarter of industrial companies complain of manufacturing shortages due to labor shortages.
Generally, production capacities are overloaded both in Germany and in the Eurozone as a whole – conditions where prices are generally rising. In the United States, where the state fueled a steep growth following the tax cuts, the unemployment rate dropped to their lowest level since 1969.
Add to that the energy prices. The crude oil now costs more than 80 USD per barrel – the highest price in four years. The restrictions imposed by the major oil producers, OPEC and Russia, play a role but also the production problems in the United States. Given the narrow labor market, the production and transportation of shale oil will not accelerate as fast as in previous years, when the flexible US mining pressures oil prices on the world market.
Moreover, the rising protectionism is potentially rising prices. For example, steel and aluminum have become considerably more expensive in the US after the Donald Trump government imposed special duties. In the UK, the forthcoming Brexit also creates price pressures.
Rising inflation risks give the US Federal Reserve, and with some delay to the ECB, a reason for raising interest rates faster than expected. As a result, all these companies and countries worldwide will face problems that are caused by the dependence on constantly low interest rates in dollars or euros. Currency crises will cause a rise in inflation in many emerging and emerging economies, as happened in Argentina and Turkey. On the other hand, central bank braking maneuvers may be too late and too light, so that inflationary trends can not be effectively curtailed even in rich countries. The depositors, who have already complained about low interest rates, would also suffer from significantly higher inflation rates.
Of course, it is not necessary to reach such an apocalyptic scenario. But beware of those who claim to know for sure what the future is.