Goldman Warns Central Bankers Face Limits on Unorthodox Policies

  • Monetary-policy makers risk easing pressure on others to act
  • Goldman Sachs economists Pill and Durre warn in new paper

The unconventional monetary policies of central banks often face limits because they could end up hurting as well as helping economies.

That’s the warning of Goldman Sachs Group Inc. economists Huw Pill and Alain Durre in a paper prepared for the first annual MMF U.K. Monetary and Financial Policy Conference to be held in London on Friday.

Their concern is that if central banks deploy overly generous unorthodox policies, there will be less pressure on governments and companies to do their part to revive economic demand. That could leave monetary policy stuck on the hook.

“By relaxing constraints on other economic actors, central-bank support may create opportunities for them to shirk their responsibilities,” the economists said in the paper, which was co-written with Cristina Manea of Barcelona’s University Pompeu Fabra and Adrian Paul from the University of Oxford. “In turn, this may render it more difficult for the central bank to withdraw its exceptional measures.”

Inflation Risk

With interest rates near zero following the 2008 financial crisis, central banks such as the U.S. Federal Reserve and European Central Bank adopted unconventional policies such as lending to banks and buying bonds to rally the world economy from recession and then support its recovery.

While acknowledging the case for such policies is strong, the economists said their use is not without risk and unless constrained could end up spurring inflation beyond the central banks’ targets.

“These risks are particularly acute when the broader fiscal environment is unfavorable,” they said. “Such risks are exacerbated if the non-standard measures weaken incentives for fiscal rectitude or private sector restructuring.”

The danger is that temporary liquidity support becomes permanent and that central banks find themselves under pressure to lead rescue efforts in future crises too. That would drain the independence and credibility of monetary-policy makers, undermining their inflation-fighting abilities, according to the paper.

“The road to central bankers’ hell may be paved with good intentions,” the economists said. “In short, non-standard central bank measures have to be designed with an exit in mind.”

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