There’s still a lot scientists don’t know about Omicron. There is cautious optimism – but no certainty – about the effectiveness of vaccines against this rapidly spreading strain of the coronavirus, and experts don’t fully understand what it means for public health or the economy.
But central banks have concluded that they don’t have the luxury of waiting to find out.
Faced with rising inflation, three of the world’s most influential central banks – the Federal Reserve, the Bank of England and the European Central Bank – took decisive steps within 24 hours of each other to look beyond Omicron’s economic uncertainty. .
On Thursday, the British central bank unexpectedly raised interest rates for the first time in more than three years as a way to curb inflation, which has reached a 10-year high. The eurozone’s central bank confirmed it would stop buying under a bond-buying program in March. The day before, the Fed forecast three rate hikes for next year and said it would accelerate the phasing out of its own bond-buying program.
The perception that the Bank of England “would view the outbreak of the Omicron variant with more concern than it actually did” caused the surprise in financial markets,” Philip Shaw, an economist at Investec in London, wrote in a note to customers. The Fed also “continued tirelessly” with its tightening plans, he added.
Other than Omicron, central banks were running out of incentives to continue emergency levels of monetary stimulus designed to keep money flowing through financial markets and keep lending to businesses and households robust during the pandemic. The drastic measures of the past two years had done the job—and then some: Inflation is at its highest point in the United States in nearly 40 years; in the eurozone it is the highest since the start of registration in 1997; and UK price increases have consistently exceeded expectations.
The heads of all three central banks have decided individually that the price increases will not be as temporary as they once thought, as it will take time for supply chains to untangle and for energy prices to pick up again.
Andrew Bailey, the governor of the Bank of England, said policymakers in Britain saw things that could threaten inflation in the medium term. “So that’s why we have to act,” he said on Thursday.
“Obviously, we don’t know much about Omicron at this point,” he added. It could slow the economy, and already there are canceled holiday parties, fewer restaurant bookings, less retail pedestrian traffic and signs of more people staying at home. But Omicron could also exacerbate inflationary pressures, he said. “And that’s, I’m afraid, a very important factor for us.”
Price hikes have already topped out this year as supply chains and shortages of goods have increased shipping and manufacturing costs. Depending on the severity of Omicron and how governments respond, the variant could lead to factories closing, supply chains in disarray and workers left at home, prolonging commodity and labor shortages and driving inflation.
At the same time, policymakers assume that the impact on the economy will be milder than previous waves of the virus. With each increase in the number of cases and the reintroduction of restrictions, the dent in the economy has become smaller and smaller. This would reduce the risk of central banks tightening monetary policy and falling into a downturn.
Yet it is a difficult balancing act. On the same day that the Bank of England raised interest rates, its employees cut half a percentage point from their growth forecasts for the last three months of the year. By the end of 2021, the UK economy will still be 1.5 percent smaller than its prepandemic size, the bank estimates.
“From a macroeconomic perspective, the fourth wave is unlikely to have such a meaningful impact as we saw even during last winter,” said Dean Turner, an economist at UBS Global Wealth Management.
The economic recovery from the pandemic, while bumpy, has not yet derailed. Unemployment rates are falling in Europe and the United States, and companies are complaining that it is difficult to hire. That, coupled with the burst of inflation, was enough to bolster the case for some monetary tightening.
“There’s a lot of uncertainty about the new variant, and it’s not clear how big the effects will be on inflation, growth or hiring,” Fed chairman Jerome H. Powell said Wednesday. But there is a “real risk” inflation could be more persistent, he also said, which was part of the reason the bank accelerated its plans to phase out its bond purchases.
The Fed’s earlier ending of bond purchases would give the central bank room to react to a broader range of economic results next year, Powell said.
“The data is quite eye-catching,” said Mr. Turner from UBS on recent inflation and employment statistics. “There’s only so much caution you can get away with,” he said before central banks have to act.
Omicron has created uncertainty in the face of a strong recovery, European Central Bank president Christine Lagarde said Thursday after setting out how the bank would end its biggest stimulus from the pandemic era.
Vaccine makers are still testing their shots against Omicron and medical officials are encouraging restraint when it comes to socialization rather than implementing new lockdowns, but central bankers are marching forward because time is not on their side. The effect of monetary policy decisions on the broader economy is not immediate.
The Bank of England predicts inflation will peak at 6 percent in April, three times the central bank’s target. In such a short space of time, policymakers can do little to prevent that, but they can try to signal wage-setting companies and unions that they will act to prevent higher inflation from becoming entrenched, said Paul Mortimer-Lee, the executive director. Deputy Director of the National Institute of Economic and Social Research in London. This can prevent higher prices from seeping into significantly higher wages, which could allow companies to raise prices even more.
While all three central banks face similar problems with high inflation and keep an eye on wage negotiations, their challenges ahead are different.
The Federal Reserve and the Bank of England are concerned about continued high inflation. For the European Central Bank, inflation in the medium term is too low, not too high. She still predicts that inflation will be below the 2 percent target in 2023 and 2024. To help meet that target in the coming years, the central bank will increase the size of an older bond-buying program starting in April, following purchases in the larger, pandemic-era program. This is to avoid “a brutal transition”, Ms Lagarde said.
She warned against strong comparisons between Britain, the United States and the eurozone economies.
“Those three economies are in a completely different phase of the cycle,” she said. “We are in a different universe and environment,” even though the actions taken by each central bank could have some spillover effects between countries.
Melissa Eddie and Jeanna Smialek reporting contributed.
