Central banks debate liquidity withdrawal risks

By Pedro da Costa and Alister Bull, Reuters

JACKSON HOLE, Wyoming — Global financial stability is at risk as central banks draw back from ultra-easy policies that have flooded the world with cash, because emerging markets lack defenses to prevent potentially huge capital outflows, top officials were warned on Saturday. Central bankers from around the world, devoting the second day at their annual Jackson Hole policy retreat to the threats posed by global liquidity, heard two academic papers on the challenges, sparking a debate on actions and on coordination. Bank of Japan Governor Haruhiko Kuroda told the audience, which included top officials from advanced as well as emerging economies, that the bold measures he had championed to spur his nation’s moribund economy were bearing fruit. “The bank’s (policy) has already started to exert its intended effects,” Kuroda said. The Bank of Japan has embarked on an aggressive bond-buying campaign to lift inflation in his country to 2 percent.

Easy money policies used to depress interest rates in Japan, Europe and the United States had sparked a flood of capital into emerging markets as investors sought higher returns. Now, however, the U.S. Federal Reserve has said it plans to reduce its bond-buying stimulus by year end, with an eye toward drawing it to a close by mid-2014. Federal Reserve Bank of Atlanta President Dennis Lockhart made clear that tapering could begin next month, provided the economic news between now and then was not dramatically bad. “I can get comfortable with September, providing we don’t get any really worrisome signals out of the economy between now and the 18th of September,” he told Reuters in an interview, referring to the Fed’s next meeting, which is on Sept. 17-18. Concerns over Fed tapering has sparked an exodus of cash from emerging markets, including India and Brazil, whose currencies and stock markets suffered steep losses this week. “Amplifications, feedback loops and sensitivity to risk perceptions will complicate the task of exit and necessitate very close and constant dialogue and cooperation between central banks,” Jean-Pierre Landau, a former deputy governor of the Bank of France, warned in his presentation. Net Positive Turkish Central Bank Governor Erdem Basci attended the conference, but his Brazilian counterpart, Alexandre Tombini, canceled in order to stay home and deal with the crisis.

Tombini was replaced in Jackson Hole by his deputy, Luiz Pereira, who argued that a tapering of the Fed’s bond purchases might actually be a net benefit for emerging economies if it signaled that the U.S. economy was picking up steam. A stronger United States should spell stronger demand for exports from emerging economies, including Brazil. Landau argued that central banks in advanced economies had cooperated successfully during the 2007-2009 financial crisis, when they coordinated on interest rates cuts and set up currency swap lines. As a result, they could do so again in the future with an eye toward moderating the spillovers from their actions.