Volatility on the financial markets is back, but central banks need not be alarmed by any sudden ructions and jolts as crisis-fighting measures are gradually rolled back, the Bank of International Settlements said on Sunday.
The world’s stock markets, and Wall Street in particular, started this year in spectacular form, clocking up one record high after the next, but have since suffered a brutal downward correction, the BIS—which is often described as the central bank of central banks—said in its quarterly report.
“Volatility is back,” said the head of the BIS’s monetary and economic department, Claudio Borio, suggesting that a certain degree could even be “healthy”.
“There are few things more insidious in markets than the illusion of permanent calm,” he argued, as that could encourage investors to take risks and eventually face bigger and more damaging losses.
After rolling out a series of unprecedented emergency measures to buffer their economies against the fallout from the 2008 financial crisis, central banks currently face the delicate task of winding down those policies without jeopardising economic growth.
The anti-crisis measures included record low interest rates, as well as asset purchase programmes known as quantitative easing, to ensure the continued flow of cash through the financial system.
“Financial markets and the global economy are sailing in uncharted waters,” Borio said.
“And after an unusually long period of unusually low interest rates and accommodating monetary conditions, it would be unrealistic to expect no further market ructions. The market wobble may well not be the last,” he said.
Central banks “need to strike a balance between normalising policy, not least to increase their room for manoeuvre to deal with the next downturn on the one hand and avoiding unnecessarily derailing the expansion on the other. The path is a narrow one,” Borio said.
The protectionist trade rhetoric favoured by US President Donald Trump will complicate matters further, he said.
“Treading the path will call for a great deal of skill, judgement and, yes, also a measure of good fortune. But policymakers need not fear volatility as such. Along the normalisation path, some volatility can be their friend,” Borio said.