Issues in International Monetary Macroeconomics
The world monetary system has always been swinging between two conflicting ideas since the fall of the Bretton Woods architecture. Back then, the system worked as a single unit, where everything seemed to move in the same direction. And for the past several decades, the more powerful idealism that holds on the concept of flexible exchange rates has been making its impact across the globe. The idea was built on the belief in economic liberalism that creates legitimacy. On the other hand, there is a weaker idea that somehow operates in the background. By default, it holds the opposite belief that total flexibility in exchange rates could have a negative impact on economic growth and free trade. Both these beliefs have marked the creation of many currencies, including the euro. They have contributed largely to the empirical attempts to create a more stable system, which has left its footmark across the global financial market.
But that is not all, over the last decade, financial markets have faced some of the most threatening situations. There have been severe crises that have caused panic, near and a total of financial markets—one of the main examples in the Great Recession that followed the 2007/2008 market failure. Many countries, who depend on the US economy's stability, were left to hang on the little economies that had. Others, which were more developed then, rushed to create fiscal and monetary policies to protect both consumers and producers. Through them, many have learned to adapt and build stronger policies and business processes that can withstand any such threats. It is all about finding the right way to deal with emerging issues as a way to create sustainable economies.
International Monetary Macroeconomics
The world has realized that building an economy is not just about having functional financial markets. It extends into the issues of sustainability and establishing constant growth. When business cycles occur, many do not know how to react to changing environments. For many years, we have seen different policymakers rush to understand economic changes and challenges that accompany every process. Hence, business cycles become one of the significant challenges to international financial markets. The modern economic environment allows for different countries to interact and trade through partnerships and treaties. As such, economic issues that affect one country may become extent vastly across the markets affecting many other countries.
Besides, globalization has made the world a small village. When combined with the issue of scarcity, there is no economy that can stand on its own without finding raw materials and other aspects of their economies from other nations. In fact, we can say that globalization is currently the biggest concern or international economic growth and development. It is not only in the aspect of creating one economy with a balance between consumption and production, but it also has something to do with assisting economies that are faced with natural disasters that seem to cause threatening issues in their economies. Today, the word may seem more united than ever. However, we cannot notice the increasing social gap between those who have and those who don't have. Hence, globalization has negatives impacts as well as positive ones.
Several proposals and ideas have been producing over the years to prevent international financial crises, but many of them are secondary to a more substantial could be approached to strengthen the processes in the current global monetary system. This idealism is based on the concept of creating a more stable environment where micro-economies could find a way to sustainability. Another very critical method could be the involvement of private sectors. Many economists and experts have felt that the misalignments witnessed among major world currencies could be a course of crises difficult to handle. And even with the creation of the European Central Bank (ECB), and the euro, there are many other unresolved critical problems, one of them being how a European Monetary Union member will react to an asymmetric shock.
Nevertheless, the ECB is a vital organ in the creation of a more stable economy. Many problems are facing financial markets, which cannot be overlooked. Any step taken by an economy or involved party is arbitrary by default, and what may look like a big problem today may be a solution tomorrow. Therefore, it is vital; therefore, you consider the current issues affecting the global financial markets from a theoretical interest point of view, which may translate into the future. Besides, there have been proposals, from time to time, for the creation of a new international monetary system, which has been greatly obscured by issues of consensus. This, like an issue affection monetary system in the world, has therefore been left in many discussions, opening space for more modest, yet viable issues, the management of international exchange rates. We can always agree that international currency exchanges cause the highest tensions in the markets, which leads up to four main issues:
- International policies coordination
- The debt problem and
- The management of exchange rates
All these issues seem to be interrelated, whereby international policy coordination and the management of exchange rates are often handling under the same umbrella. Any policies that are created by international policymakers for the coordination of financial markets touch currencies, their strength, and positions within their economies, as well as their exposure to other currencies. But these are issues that have already been discussed before. As such, the following section will be looking at more immediate challenges within the markets.
Issues within monetary and other policies
In 2014, Peter Praet, Member of the Executive Board of the ECB, presented a speech at the 8th Kiel Institute Summer School of Economic Policy, with a topic "Reassessing Monetary Policy." He emphasized the implication of the monetary policy on the global economy. The monetary policy has been a pressing issue, more than even the central banks, ever since the financial collapse. Today, financial stability is now a more pressing concern for central banks, in which the monetary policy is hanging independently in the spotlight. And as, Praet states, the term "reassessing," seems too strong for the current situation, majorly because of the principles of strong monetary policy has remained unchanged over the past several years. The only thing that has certainly changed is the environment in which the monetary policy is set, as well as the measures put in place to fight the risks to price stability.
Refer back to the years that preceded the start of the previous financial crisis, when the so-called "Great Moderation" was in effect. At this time, many people thought that monetary policy was such an easy job. This led to central banks winning battles against inflation, which, interesting became permanent. Then, low and stable inflation was viewed as a necessary condition for handling economic cycles. Whereas low inflation is an asset for any economy, many have been optimistic that macroeconomic growth would continue in a steep upward path without any interruption. Current figures show that this foreseen paradise may have been just an illusion, which leaves us to wonder whether central banks did not have enough resources when the crisis came.
On the contrary, they made decisive actions that addressed some of the issues that arose from the crisis. In major economies, central banks were forced to respond rapidly, which involved unprecedented changes in policy rates as well as close levels to zero and taking on some questionable measures. Some of the non-standard methods at the time involved the purchasing of asses and liquidity provision to banking sectors as a way to shield these institutions. Doing this helped central banks to avert even more serious issues that could have resulted from the crisis. Hence, central banks have always been active in their goals of maintaining price stability.
The creation of the ECB has been another major step towards building a more stable global economy. It has acted with force and energy to pursue the problem of price stability, working like central banks to come up with several standard and non-standard measures to reduce the vital interest rate to abnormal low, enabling banks to receive unlimited liquidity. Over the years, there have been several other monetary policy accommodations to ease, condition, and inject complementary liquidity into the economies. In addition, there are added longer-term operations for refinancing, which would relax the interest rates and reach better economic levels.
All these decisions come with challenges and risks to the international monetary systems. Some of these challenges include:
Possible prolonged low inflation period
As much as it sounds incredible, there are many challenges to a decline in inflation rates. By 2011, the was a 3.0% inflation, which dropped by half towards the mid-2014. This was a huge decline that was anticipated by many international economic institutions. For instance, the inflation in Eurosystem projects in 2014 was revised downwards over several months, beginning at the end of 2013. The inflation was projected at 1.1%, which was expected to be at 0.7% in 2014. The figures indicate that inflation developments would continue to disappoint many. Still, there is a very minimal momentum in inflation dynamics, with expectations that it would remain the same for many economies. Preat states that "The Governing Council's focal point of aiming at inflation rates below, but close to 2% in the medium term has to be in two symmetric way: Inflation rates above and below this focal point are a matter of concern for us. The standard subdued inflation outlook provides a little safety margin against unexpected adverse shocks that may give rise to downside risks to price stability. Inflation rates are thus outside what we consider as a "zero of comfort."
One may argue the de-inflation is a good move in stabilizing the economy, which seems fairly true to many. However, persistently low inflation could introduce what is known as "backward-looking," in what inflation should be expected. This is means; inflation expectations could become more unstable if the agents begin attaching more pressure in the assessment of future inflation.
Hampered monetary policy transmission
Another critical issue that may arise from the low focal point for inflation, over the medium run, could, in fact, be a still hampered monetary policy transmission. Policymakers want to ensure their measure succeeds in pushing inflation back to the medium-term price stability and guaranteeing smooth transmission through the economy. This is very critical in handling lower interest rates. Lending volumes seem to go lower at every given instance as the lending rates remain the same, even with improving financial markets. This is true, especially in most European economies, where customers pay high lending interest for small loans. And because these rates reflect credit risk, which has surged, it is impossible to make this viable—the credit risk of borrowers endogenous, which may also affect their requests for higher lending rates.
Potential low growth
Another challenge monetary policy face across economies is the risk of protracted low growth. Ever since the great recession, we have seen many financial conditions stabilizing, and yet, there are many countries where they're in a strong recovery in growth, or in the catching-up process. This could seem familiar, but observers may point out the risk of secular stagnation when the process is too slow. Even advanced economies like the US have found themselves trapped in an environment of persistent financial depression, where the natural interest rate has remained negative. Such a situation could have a negative impact on demand for debt-financed investment; the declining rates of the population may greatly affect foreign exchange reserves across a number of economies.
In reaction, may central banks opt to increase their inflation objectives as a means to guard against the risk of zero lower bound in the long-run? This could be a good proposal, but one that could end up having adverse effects. For instance, it will greatly affect the natural interest rates. Increased savings and supply of funds can course downward pressures.
With world economies facing different challenges, it is vital to understand how world economies deal with these issues. There are constant threats from different areas, including natural environments and courses of economies. Monetary policy discussed in this article is only more system-based challenges, which require serious studying.
Author: James Hamilton