BASEL, Switzerland (MNI) – Central banks should pay close attention
to the risks to inflation in a few years’ time even if there is little
reason to expect price stability to come under threat in the short term,
Bank for International Settlements General Manager Jaime Caruana said
Monday.

Speaking at the bank’s Annual General Meeting, Caruana, according
to a copy of his remarks made available by the BIS, said some central
banks in emerging markets may have thus far abstained from tightening
policy despite increased inflationary pressure.

“Central banks need to maintain their medium-term focus in setting
monetary policy,” he said. “Although core inflation is low at present in
the major advanced economies, and there is little reason to expect a
sharp near-term rise, we should remain vigilant about risks a few years
ahead.”

He continued: “In current circumstances, when public sector debt is
rising so rapidly, any expectation that central banks would be prepared
to tolerate higher inflation could easily unsettle the markets.”

In the context of a call on advanced economies to reduce budget
deficits convincingly, Caruana suggested that emerging markets practice
greater exchange rate flexibility so as to boost their domestic demand
“and thereby support global growth at a critical juncture.”

Noting the efforts of some European countries to restore fiscal
order, Caruana said it is easy to point out the negative short-term
impact on the real economy, but defended the efforts as preferable to
the possible alternative.

“In the current unsettled times, the alternative of having to cope
with the financial and macroeconomic disruption that a sudden loss in
market confidence could cause would be far worse,” he said.

Strengthening domestic demand in the emerging markets has brought
increases in capital inflows, bank credit and asset prices, Caruana
noted. Currency appreciation in some EMEs and, in contrast, major forex
intervention in others have helped counter rising inflationary
pressures, he said.

“Some central banks may even have held back increases in policy
rates, despite rising inflation pressures,” he continued. “If maintained
too long, policies to stem currency adjustment will create risks for the
domestic economy.”

–Frankfurt bureau tel.: +49-69-720142. Email: dbarwick@marketnews.com

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