Potential crises and side effects of aggressive interest rate hikes pose communications challenge for policymakers
This week, Japan is playing host to a critical meeting of finance ministers and central bank governors from seven of the world’s richest nations as part of the G7 summit. The gathering of some of the most powerful figures in international finance comes at a pivotal moment, with the global economy and financial markets facing heightened risks. As policymakers seek to tackle stubborn inflation, recent turbulence in US markets and the ongoing economic impacts of Russia’s war in Ukraine, the outcome of this meeting promises to have far reaching effects
Turbulent times in the US
The meeting comes at a time of acute tension in the US, with government at risk of shutdown unless Congress raises the debt ceiling by June 1st. Indeed, US Treasury Secretary Janet Yellen warned that should this happen there would be a risk of unprecedented defaults , unleashing financial turmoil on the markets.
Meanwhile, the sale of failed US regional lender First Republic, one of three US bank failures in less than two months and the largest collapse in US banking since the 2008 financial crisis, has not stopped a slide in shares of other US regional banks amid growing signs that there are more problems lurking in the US financial sector.
Furthermore, the next interest rate move from the US Federal Reserve is being eagerly watched. The Fed – whose communications are always a delicate balancing act – has hinted at a pause in its interest-rate hiking cycle. Economists are becoming increasingly vocal in arguing that rates may be high enough to contain inflation. However, the concern is that central bankers will be forced to quickly pivot to cutting interest rates to limit the fallout from an economic slowdown that could happen in the second half of this year.
Persistence of war induced inflation
Since Russia’s invasion of neighbouring Ukraine in February 2022, central bankers have been grappling with the challenge of communicating what they are doing to combat rising energy and food prices effectively. Unfortunately, the messaging from policymakers has been inconsistent, leaving investors unsure and often caught off guard. With the negative impact of rate hikes on the financial sector now receiving more attention, it means clear and consistent messaging from central bankers is even more imperative in order to avoid exacerbating existing problems.
G7 policymakers certainly have the tools needed to bolster the economy and ensure financial liquidity, as seen in the response to the coronavirus pandemic. Indeed their communication about these tools helped shift investors’ attention to how to prepare for an anticipated post-pandemic bounce in economic activity.
While Russia’s war in Ukraine continues, inflationary pressures are more contained. For this year’s joint statement, more attention will be paid to whether and how G7 countries of Britain, Canada, France, Germany, Italy, Japan, and the US acknowledge concerns about the risk of US default, unease about US mid-tier lenders, persisting inflation and the collateral damage caused by a year-long cycle of global interest rate hikes.
The decisions taken by policymakers in this meeting, and the way in which they are communicated promise to have a significant effect on whether the second half of 2023 will be more or less turbulent than the first.