Read The Impact of US Policy Innovations on Central Banking Policy in Europe.
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This is a very welcome and thoughtful overview by Prof Honohan of what the new US policy could mean to central banking, though I focus on what it could mean for the next GFC and how the role of CBs in that next GFC could be different from past crises. While each crisis will have many unexpected elements (not unrelated to Goodhart’s law), the underlying buildup and playing out of the crisis is often subjected to the same forces, feedback loops, attempted dumping of assets that lead to further dumping, and so forth.
In those sudden stops and the resulting doom loops, the CBs are asked to come in and stabilise markets. The stabilisation policies in the next GFC may be different given the new political landscape in the US, and the paper does a very useful tour of some of those potential differences.
Prof Honohan seems to agree with my view, which is that none of this will necessarily hasten or delay the next GFC, just that the dynamics of unfolding will be different, the crisis possibly less contained, perhaps less coherent internationally, more of a need of the RoW to lead as opposed to simply follow what the Fed does, and therefore more destructive if less coherent across jurisdictions. What if the USD swaps are gone? Or used strategically by a Fed chairman who in Trump’s image is more transactional, perhaps tying international swaps lines in with side payments to the US or to the president, or trade concessions, or …
It is wise, as writes Prof Honohan, to now plan ahead for what can be done in terms of dollar availability, or dollar liquidity substitutes, that might, just perhaps, do any good in the next GFC. Or better, plan ahead and reduce dollar exposures to start with (as Russia and China have been doing so perhaps for other reasons), at least try to monitor and get an estimate as to how large they can be in an unfolding crisis and of what liquidity buckets.
I for one am not convinced atm that Euro CBDCs or private currency basket stable coins will be the scissors cutting through the feedback loops at the next GFC.
Not least because most observers have mostly been looking at how the crisis could unfold, but - unwisely - spend very little time trying to understand what the driver to the build up of that next GFC is. We know the forces that will make it destructive ex-post, but not necessarily where the hidden risks are now building up and on what cycle those hidden states are on.
My view is that they ultimate driver will be something so simple and old-fashioned that it is hiding in plain sight, so obvious that we don’t really consider it, such as a global downturn of the land and property cycles. Very few, if any, GFCs have happened when the land cycle is not also turning down with them. Crises stay fixable by CBs and fiscal authorities when they are just financial shocks or downturns of the financial or business cycles.
But if those cycles coincide with a downturn of the land (and thus the property) markets, then CBs and fiscal authorities will be truly challenged. With inflation where it is, constraining monetary policy, with sovereign debt at unsustainable levels as where it is, constraining both monetary and fiscal policies, and now with the US policy world as described in this piece, the monetary and fiscal toolboxes seem quite a bit emptier for the next GFC than they looked before the last one.