Central bank governors proclaim the end of the era of low interest rates and moderate inflation

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The world’s top central bankers have warned that the era of low interest rates and moderate inflation has come to an end after the “massive geopolitical shock” from Russia’s invasion of Ukraine and the coronavirus pandemic.

At the European Central Bank’s annual conference, Christine Lagarde, its President, Jay Powell, Chairman of the Federal Reserve, and Andrew Bailey, Governor of the Bank of England called for swift action to curb inflation.

They said failure to raise interest rates quickly enough could allow high inflation to take hold and ultimately require more drastic action from central banks to bring price growth back to more moderate levels.

“There will most likely be some pain involved in the process, but the worst pain would be not addressing this high inflation and allowing it to continue,” Powell said.

In Sintra, Portugal, central bank governors said the pandemic and war in Ukraine would reverse many of the factors that had led to extremely low inflation in most developed countries for more than a decade. They warned that fragmenting the global economy into competing blocs risks fracturing supply chains, reducing productivity, raising costs and sapping growth.

“I don’t think we’re going to go back to that low-inflation environment,” Lagarde said. “There are forces that have been unleashed as a result of the pandemic [and] as a result of this massive geopolitical shock that will change the picture and landscape in which we operate.”

“Some would argue that where you produce [or] The location from which you provide services is determined by factors other than just cost,” the ECB President added. Whether specific locations are politically “friends or foes” is likely relevant, she added.

Powell said these shifting dynamics would force a rethink of how the world’s central banks operate as the low-inflation environment “now appears to be gone”.

“We are living with different forces now and we have to think about monetary policy very differently,” he said. Forecasting inflation in this environment has become a much more difficult task, he added. “We now better understand how little we understand about inflation.”

Bailey said there has been “a sea change” in the way economies work and in the UK Covid is leaving “a structural legacy in labor markets and the way they behave”, with lower employment and higher risks of excessive wage increases .

Lagarde said the war in Ukraine is hitting Europe harder than most other regions in the form of higher energy and food prices, meaning the continent is “not in the same situation” as the US and other countries.

But she warned about “what’s happening on the energy front [and] what happens on the war front” will affect inflation expectations. This could require the ECB to move from its current “gradual” approach to raising interest rates – starting with a quarter-point hike in July – to a more “firm” monetary policy stance.

Powell pledged to prevent a “higher inflation regime” from taking hold in the US, underscoring the central bank’s willingness to raise interest rates quickly this year. The Fed has resorted to measures last applied more than 30 years ago, raising interest rates by 0.75 percentage points earlier this month to bring the federal funds rate to a new target range of 1.5 to 1.75 percent .

Senior officials have signaled another big rate hike at the next policy meeting in July, with the benchmark interest rate set to hit about 3.5 percent by year-end.

Lagarde said the European economy was also being shaken by a shift from higher spending on goods during the pandemic to more spending on services such as tourism and travel, supporting growth in the eurozone but also triggering “a series of shocks” that fuel additional price pressure.

The ECB President said central banks and governments were no longer “working hand in hand” as they had during the pandemic, but instead that it was now important for fiscal policy to become “more targeted” and “sustainable”.

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