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Central Banks Can’t Save the World Economy: Jackson Hole Update

Michael McKee, Rich Miller and Matthew Boesler

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Central bankers debated for a second day at the Kansas City Federal Reserve’s annual policy retreat in Jackson Hole, Wyoming.

Their discussion about the challenges facing monetary policy takes place against an increasingly tense global economic backdrop, with investors nervous about the risks of recession stemming from President Donald Trump’s escalating trade war with China.

Here’s a summary of news and commentary from the second and final day of the conference presentations:

Central Banks to the Rescue (Not): 2:10 p.m.

In the closing session of the conference, Reserve Bank of Australia Governor Philip Lowe told the audience that central bankers have limited ability to cushion the global economy from the headwinds of mounting political uncertainty.

“We are experiencing a period of major political shocks,” Lowe said, citing developments in the U.S., Brexit, Hong Kong, Italy and elsewhere. “Political shocks are turning into economic shocks.”

Infrastructure investment and structural reform in economies around the world would have much greater impact than cutting interest rates. But politicians are reluctant to act. Ending the political uncertainty would also bring benefits.

“With these three levers stuck, the challenge we face is monetary policy is carrying too much of a burden,” he said.

Triffin’s Dilemma Redux: 11 a.m.

In the 1960s, Yale economist Robert Triffin famously warned about the contradiction at the heart of a global monetary system organized around the gold standard: a fixed supply of gold in a growing global economy would eventually cause a crisis.

Known as Triffin’s Dilemma, and sure enough, by 1971, U.S. President Richard Nixon was forced to close the gold window, ending the shiny yellow metal’s dominance in the global financial system.

The second paper presented Saturday at Jackson Hole suggests the dilemma has returned, but in a different form: this time, U.S. dollar-denominated debt is the new gold.

Stanford University economists Arvind Krishnamurthy and Hanno Lustig point to the role dollar-denominated investments -- especially U.S. Treasury securities -- play in providing global investors safe assets. They find that increased demand for such investments, as well as tighter U.S. monetary policy, causes an appreciation in the U.S. dollar exchange rate against other currencies.

But unlike gold, providing more safe assets under the dollar system means borrowers have to take on more debt.

“The supply of safe dollar assets is no longer backed by gold; however, the supply is fueled by increases in public and private leverage,” Krishnamurthy and Lustig wrote. “Will dollar leverage be supplied in a manner consistent with financial stability? The events of the last 15 years suggest that policy makers should pay close attention to this question.”

Curse of Commodities: 10 a.m.

It’s not just the major central banks in advanced economies trying to figure out what lies ahead for them at Jackson Hole: monetary policy makers in emerging markets are pondering their own challenges as well.

Saturday’s conference got under way with a paper examining how central bankers in small, open economies in which commodity exports comprise a significant share of economic activity -- such as Chile or Argentina -- might respond to booms and busts in commodity prices. These have become more frequent in recent decades as commodities have become more important as an investment product for global portfolio managers.

The authors -- Thomas Drechsel of the University of Maryland and Michael McLeay and Silvana Tenreyro of the Bank of England -- outline how an increase in global commodity prices can lead to financial booms in exporting countries. That’s because the rise in prices allows them to borrow more. In turn, that pushes up their exchange rates and domestic inflation.

“The growing contribution of commodity price shocks to business cycles, their role in relaxing borrowing constraints and the discussion around the financialization of commodity markets make it ever more important to think about the potentially special role of commodity trade in setting monetary policy,” they wrote.

To contact the reporters on this story: Michael McKee in Jackson Hole, Wyoming at mmckee@bloomberg.net;Rich Miller in Jackson Hole, Wyoming at rmiller28@bloomberg.net;Matthew Boesler in Jackson Hole, Wyoming at mboesler1@bloomberg.net

To contact the editors responsible for this story: Alister Bull at abull7@bloomberg.net, Ros Krasny

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