Extreme monetary easing could have drastic side effects - IMF

The International Monetary Fund cautions that loose monetary policy in advanced economies may have dramatic long-term side effects, and even drag the world economy back into crisis. Some central bank executives agree.

In its report on global financial stability published on Wednesday the IMF said that central banks of leading economies would have to take urgent steps to prevent the possible negative impact of close-to-zero interest rates and stimulus programs, the Financial Times reports.

In the short term,the IMF agreed that monetary easing to stimulate growth is reasonable in the current situation.

“When the patient is still under treatment, you should not suspend the medicine, but you should always be vigilant about the side-effects of this medicine,” IMF’s head of financial stability José Viñals said. 

In the organization’s view it is not yet time to impose higher interest rates and switch to more traditional methods of supporting growth. Despite the concerns the IMF advised central banks to keep on going with close-to-zero interest rates as lifting them now could destabilize the system. 

It also said banks’ health in the Eurozone needed close attention emphasizing its previous advice to introduce a unified resolution regime for banks, including a common model for providing financial aid and deposit guarantees.

Speaking about the US, that has already moved past the stage of restructuring banks, the IMF said the country's monetary authorities should start considering the side effects of extreme monetary easing. 

“While we are at the very early stage [of the US recovery], we are already seeing a deterioration in the quality of issuance, which is typical of the late stages of the credit cycle,” Viñals said.

Central bank executives seem puzzled and uncertain about where their extreme monetary easing could take their countries’ economies in the future. 

A former member of the European Central Bank’s executive board Lorenzo Bini Smaghi said “we don’t fully understand what is happening in advanced economies.” The governor of the Bank of England Sir Mervyn King said that “there is the risk of appearing to promise too much or allowing too much to be expected of us”.

Janet Yellen, vice-chairman of the Federal Reserve, however is more sure that they are moving in the right direction. “I don’t see pervasive evidence of rapid credit growth, a marked build-up in leverage, or significant asset bubbles that would threaten financial stability. But there are signs that some parties are reaching for yield, and the Federal Reserve continues to carefully monitor this situation,” she said.