Don’t count on an easy Fed rescue from Ukraine fallout
(Bloomberg review) — Central banks have been a powerful tool in stabilizing the global economy in past crises. Their ability – and their will – to do so now is limited. The terrain is more difficult and the costs of a rescue are higher.
The price Russia pays for its invasion of Ukraine, let alone the fate of the global pandemic recovery, depends to a large extent on the ability of Western monetary authorities to deploy their forces and what they are willing to sacrifice. along the way. Less than a week ago, policymakers in most countries were talking about how quickly remove support, not how much should be extended. Are officials abandoning the fight against the highest inflation in decades? Is there a way to avoid financial upheaval without resorting to Covid-era or post-Lehman responses?
Fears of a funding crisis are mounting: the dollar jumped Monday against almost all peers, Treasuries rallying to gold. The Russian ruble sank as the United States and the European Union sought to isolate the country from capital by sanctioning the Bank of Russia. The Biden Administration U.S. Persons and Companies Prohibited to do business with the Bank of Russia, the Russian National Wealth Fund and the Ministry of Finance. Speculation was high on Monday that Western central banks will assemble some sort of backstop for the worldwhile maintaining pressure on Moscow.
The critical actor in this aspect of the conflict, notwithstanding the eurozone’s geographic proximity to Putin’s tanks, is the Federal Reserve. Despite all the rhetoric about the decline of the United States and complaints that the initial Western response to Russian aggression lacked teeth, the dollar power and the extent of the Fed’s reach makes it a potent force that Putin will have to contend with – if he enters the fray.
For people used to the Fed stepping in to help, there are good reasons to expect help. At least twice since the turn of the century, the central bank has lowered interest rates and extended the dollar offer to friendly peers to ease a crisis. The goal of both strands was to combat aftershocks of what were seen as once-in-a-century events: the collapse of Lehman Brothers Holdings Inc. in 2008 and the coronavirus outbreak in 2020. In 1998, as the Russia was in shock from a financial crisis, the Fed cut rates despite a robust US economy. US economic leaders then backed aid to Russia, even after it defaulted on its debt.
Circumstances are more difficult now. The United States has no desire to help Russia as long as the current aggression continues. If its banking system craters and the currency becomes truly untouchable in international markets, don’t expect the US Treasury or the International Monetary Fund to make soothing noises. By the 1990s, the Cold War seemed to be over, emerging markets were all the rage, and inflation was relatively subdued. Bill Clinton enjoyed his relationship with Boris Yeltsin. The West thought it had a vital interest in healing Russia and rebuilding its commercial health. Backed by the Clinton administration, the IMF had spent the previous year bailing out South Korea, Indonesia and Thailand. Unlike this trio, Russia had nuclear weapons. Leaving Russia to fend for itself was not considered a serious option.
Fast forward to 2022, and the dynamic is entirely different. On Monday, the Bank of Russia intensified its benchmark rate sharply, to 20% from 9.5%, and slapped some controls on capital. These dramatic steps have historically been unsustainable and often last-ditch efforts to avoid seeking IMF assistance. It is difficult to foresee aid soon, even if Russia were considering asking for it.
There are things the Fed can do to reassure the markets today, but they are neither free nor easy to communicate. He could extend dollar trading lines – or signal that he is ready to do so. Last deployed successfully at the start of the pandemic, this safety net helped prevent a public health crisis from turning into an economic disaster. The central bank took similar action in 2008. In both cases, injecting dollars into the global financial apparatus was consistent with its broader policy direction. Inflation was under control and officials were easing aggressively. On the other hand, the favorite inflation gauge climbed to 6.1% in January, more than three times its target at the time. The pace of price increases is also well above the comfort zones of the Bank of England and the European Central Bank.
The Fed could clarify that swaps were only for financial stability. While this is true, the difference in the general economic landscape is striking. The US central bank would then be faced with the question of who would get an extended swap line. In 2020, they visited countries and financial centers that are allies or partners of the United States. No American enemy had one. Are swaps extended to a new group of countries, such as those in Eastern Europe? How could Congress, which the Fed considers its real boss, react?
Cutting rates would be a reversal of epic proportions, given that Fed officials have signaled they will start to rise in March, with some signaling an open for a half-point hike. The best contribution central banks can make today is to be a force for stability. This suggests a quarter-point step in March and several moves of similar proportion. If the situation in Ukraine resolves or worsens significantly, the central bank may have to change course.
There was no doubt about the course needed during the pandemic and the global financial crisis – the discussion was about the means. As difficult as it may seem, wartime financing will be even more difficult.
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Daniel Moss is a Bloomberg Opinion columnist covering Asian economies. Previously, he was Bloomberg News’ editor for global economics and led teams in Asia, Europe and North America.