Central banks face a choice. And the world awaits their decision. They can either bring inflation under control, or they can prevent a sovereign debt crisis. But they can’t do both.
Which will they choose? Inflation or bust?
That’s not the question I’m going to even try and answer today.
What I want to focus on is who has the power in a world where central banks face that choice. Who is really making the decisions that affect you and me?
You see, governments are so broke that they rely on unlimited financing from central banks to keep their spending ticking over. But now inflation has reared its ugly head.
Do you think central banks will tighten monetary policy and risk a sovereign debt crisis in order to get inflation under control?
Or do you think that central banks will ignore inflation and keep printing money in order to fund their governments?
The whole point of making central banks independent was to ensure that they focus on inflation and other economic goals, without playing politics. The idea was that the printing press is too dangerous in the hands of politicians. It had to be taken out of the political sphere and handed to a bunch of economists academics lawyers who would focus on keeping inflation on target.
But this narrative doesn’t work once governments run up enough debt. Central bank independence is taken out of the equation because central bankers would trigger a severe sovereign debt crisis if they focused solely on inflation and raised interest rates.
If central banks raised interest rates high enough to bring down inflation, it would also impose interest rates that governments around the world can’t afford. And that means a debt crisis.
Which, of course, has rather large implications for inflation too. That’s the excuse that central bankers use to justify their policy of financing governments with QE in the face of high inflation.
All of that describes the situation we’re in. But, like I said, today, I want to focus on the power dynamics behind the scenes that this situation creates.
You see, I used to believe that central bankers had painted themselves into a corner. By allowing governments to borrow like mad at low interest rates, central bankers had created the very impossible position they now find themselves in, where they have to choose between allowing inflation and causing a debt crisis.
But consider that I might have it precisely backwards…
What if central bankers are now in charge of the world because governments rely on them to print enough money to finance deficits?
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What if, instead of central banks being cornered by their own policy, they now have a grip on the sword of Damocles, which hangs over politicians?
And what if they are willing to give it a swing to get their way? Or just willing to threaten to let it drop on someone’s head?
The best way of explaining what I mean is to bring up the recent example of it playing out…
Back when Greece was negotiating its bailout, it faced the dreaded troika of the European Union, International Monetary Fund, and the European Central Bank. The three imposed all sorts of economic reforms and austerity on the Greeks in exchange for a rescue.
Now, if the Greeks had had their own currency, they could’ve simply printed the money they needed. Instead, they were stuck with a central bank that wasn’t just independent, but outside of their government’s legislative control altogether.
This situation demonstrates where the power lies. Not in the hands of a democratically elected government, nor in the hands of the people who rejected the troika’s plans in a referendum.
The power lay in the hands of unelected bureaucrats who could dictate terms, because they had the keys to the printing press where the money for Greece would come from, in the end.
What if the same dynamics of power are playing out now, in halls of governments around the world today? Except in Turkey, where the government has the central bank by the balls — demonstrating why central banks were made independent in the first place — but that’s another story.
What if central banks now have the upper hand and can dictate policy to governments?
After all, those governments rely on central bank profligacy to finance them. And now that inflation is spiking, central banks are supposed to raise interest rates and tighten monetary policy.
They could easily threaten politicians with, ‘If you don’t do X, Y, and Z, we will take inflation seriously, raise interest rates, and you will face such a large interest bill on your deficit that the entire government will look insolvent.’
Of course, it’s not as simple as that. And it’s not like central banks can agree on what policy is a good idea for governments to implement.
In the last crisis, they were busy imposing austerity on southern Europe. During the pandemic, they were suddenly fans of vast stimulus, even claiming that monetary policy had exhausted itself and it was time for fiscal policy to step up.
But the point is that central bankers may not be as powerless or isolated as it seems. They might be the ones pulling the levers of power.
If so, what would we expect them to impose? Well, they are far more internationally cooperative than many politicians. And they are not accountable to…anyone.
I suspect they consider the financial sector and the government sector to be their priority, ahead of you and me.
Historically speaking, when faced with their current dilemma, some central banks have caused hyperinflation, and others a severe recession in order to bring inflation down.
While the world awaits their decision on inflation versus funding the government, I can’t help but wonder…who do you think is really in charge of our governments?
Until next time,
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Nickolai Hubble,
Editor, The Daily Reckoning Australia
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