- The world is the only closed economic system—policy in one country can't but affect all countries. So in times of crisis, concerted action makes all the difference.
- So far, central banks have worked quickly, aggressively, and in a semi-coordinated fashion unprecedented in global capital markets history.
- Global monetary policy isn't perfect and takes time to work—but it pays to remember markets usually recover before the economy does.
Today's unadulterated use of the word "global" reflects our fascination with globalization as a novel phenomenon. Yet globalization is anything but novel—the late 19th and early 20th centuries saw a similar explosion of global alliances and business pacts, only to be ended by World War I. The sequel took so long to reach theaters, folks forgot there was a prelude.
Yet even in times of less globalization, the world's a closed economic system—policy in one country affects all countries. We are always at least partially linked by trade (of goods and capital) and diplomacy. Consequently, while financial globalization allows capital to flow where it's most needed and spreads risk, it also means a global crisis requires a global cure.
There is a tendency to focus on America and the Fed. But the Fed is only the US's central banker. There's a whole world out there, and today's economic and financial ills are not a US-only event.
Central banks have broadly responded to this year's crisis with unprecedented cooperation and alacrity—from massive rate cuts to other monetary maneuvers. Recently, the US reached a monetary policy landmark—a target rate of zero. Thus begins a new experiment—quantitative easing, or the process of building a central bank's balance sheet on more than just traditional short-term government debt.
Will other countries follow? So far, it seems feasible. The Bank of Japan, experienced in zero interest rates and quantitative easing, has ostensibly joined the US. The Bank of England, while hedging its language, is discussing what a zero interest rate policy might mean for the UK. The conservative European Central Bank (ECB) will likely continue cutting rates and, though it may not reach zero, has said it is open to other innovative measures.
Global monetary policy isn't perfect. There's plenty of room for error on all sides. In an era such as this, to err with too much stimulus is the far lesser of the evils. If we've learned any lessons from the Great Depression, it is that much. But the point isn't that each country or region pursues identical policies, just that they all agree aggressive action is required and are acting appropriately in a semi-coordinated fashion. This alone is unprecedented in global capital markets history. And we're encouraged this crisis has provoked such strong, concerted action—recovering together can only positively reinforce the process. (As an aside, we're also encouraged by the staying power of free trade so far in this crisis. One of the Depression's greatest mistakes was for many countries to hunker down and isolate with new tariffs and similar trade embargoes.)
Further, while the effect of this "wall" of monetary and fiscal stimulus won't be immediate (as much as a few years), expect markets to price in its results before they show up tangibly in economic data. With so much stimulus today, a real, prolonged spate of deflation is almost unfathomable. High inflation? Maybe—but it won't happen for some time. Meaning, at least for now, globalization's sequel is safe.