A Time of Magic

One of the peculiar things about international banking is that whilst the central banks can control the interest rate or the exchange rate, they can’t control both at the same time. Through in their desire to keep a handle on inflation and you’ve a really complicated affair indeed.

For instance, normally the tactic to get inflation down is to increase interest rates which in turn will keep the exchange rate quite high in respect of other currencies. That works well for a while except that with a high exchange rate you can find yourself sucking in a lot of cheap imports after a while which, of course, isn’t really that good for the economy. In times past, that would have signaled the onset of import controls to correct the problem but that’s rarely a runner these days.

The other problem is that this time around, it’s not runaway lending by the banks that’s getting inflation up, it’s the oil price. Therefore, no matter what the interest rate is, it’ll not make a whole lot of difference in inflation, so why do they bother? Basically because that’s how they’ve always done it. Yes, they know that it’s largely the oil price that’s driving inflation upwards but the only weapon that central banks have left to them is the interest rate so they keep that up knowing that all it’s doing is hurting the economy.

Having said all that, there doesn’t seem to be an easy way out of the mess this time.

 

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1. What happened to price inflation?
2. Banking liquidity ratios and the Northern Rock
3. How dependent are you on your electricity?
4. Strangely different banking practices
5. Still hunting for some mortgage finance?

This entry was posted on Wednesday, June 11th, 2008 at 4:55 pm and is filed under Finance. You can follow any responses to this entry through the RSS 2.0 feed. Both comments and pings are currently closed.