Fed must tread carefully in exploring ways to scale down monetary easing

The Yomiuri Shimbun

13:30 JST, June 20, 2021

A hike to interest rates and a paring of quantitative easing by the U.S. central bank will have a significant impact on the global economy. The U.S. Federal Reserve must carefully explore the timing of its monetary policy changes while keeping an eye on the overheating of the economy and price trends.

The Fed has signaled it may bring forward — from after 2024 to by the end of 2023 — the forecast for ending its policy of keeping interest rates at effectively zero.

A full-fledged study is also expected to begin in July into scaling back quantitative easing, which has been supplying a massive amount of funds to the market through purchases of government bonds and other assets.

The Fed began its zero interest rate policy and large-scale quantitative easing in March 2020 as measures to combat the novel coronavirus pandemic. The latest statement can be seen as a change from an emergency policy to a standard one.

The U.S. economy is recovering rapidly due to the normalization of economic activities with the spread of COVID-19 vaccinations, so the reduction of easing policies is a natural move.

The stock market is at an all-time high level due to the surplus of funds from monetary easing. It has been argued that real estate prices have also soared, leading to widening disparities.

The Consumer Price Index rose 5.0% in May from the same month last year, the highest growth in the United States in 12 years and 9 months, and concerns about inflation are emerging.

Although Fed Chair Jerome Powell has shown he recognizes that the rise in prices is temporary, U.S. President Joe Biden’s administration has aspirations for big government, with an emphasis on fiscal policy, and has implemented massive economic measures such as cash benefits to households.

The full use of monetary and fiscal policies may cause the overheating of the economy and acceleration of inflation, situations that must be avoided.

On the other hand, as the United States leads the global economy, it has an impact on many areas once the course of monetary policy is reversed and heads toward actual tightening.

If U.S. interest rates rise, the funds that have been invested in emerging economies in search of higher yields will tend to flow out. As funds flow back to the United States, the U.S. dollar will strengthen, leading to situations such as ballooning the dollar-denominated debt of emerging economies, which is expected to be a major blow to these economies in particular.

In 2013, when then Fed Chairman Ben Bernanke signaled that the central bank would scale down its quantitative easing, global financial markets were sent into a panic as emerging economies’ currencies weakened and stocks declined.

After the latest statement by the Fed, U.S. stocks fell. There are views that bubble conditions exist in the U.S. stock market. If the Fed fails to deal with the situation properly, the market could be in for a shock again. The Fed’s careful messaging of information is essential.

The same trend is spreading outside the United States. For example, the Canadian central bank has decided to reduce its quantitative easing. Normalization of monetary easing in Japan is not foreseeable, but the Bank of Japan should keep a close eye on the impact from global trends.

— The original Japanese article appeared in The Yomiuri Shimbun on June 20, 2021.