The mistake of the 70s
The mistake that central banks have made in the past and which they must not repeat, for Lagarde was the one in the 1970s. Central banks at the time were faced with the upheaval in the geopolitical environment as energy prices, which had been stable for decades, soared due to OPEC decisions. “Central banks have failed to provide an anchor of monetary stability and inflation expectations have de-anchored – a mistake that should never be repeated as long as central banks are independent and have a clear price stability mandate.” .
The period of stability is over
After the end of the Cold War, global supply became more elastic to changes in domestic demand, leading to a long period of relatively low and stable inflation. This, in turn, supported a policy framework in which independent central banks could focus on stabilizing inflation, steering demand without having to pay too much attention to supply-side disruptions.
“But that period of relative stability could now be giving way to lasting instability, resulting in lower growth, higher costs and more uncertain business partnerships. Instead of more elastic global supply, we could face the risk of repeated supply shocks,” Lagarde said.
Lower inflation thanks to the payment system and reserve currencies
The US dollar has established itself as a global reserve and transaction currency and, more recently, the euro has risen to second place. This has had a number of implications – mostly beneficial – for central banks.
For example, the ability of central banks to act as ‘conductor of the international orchestra’, as noted by Keynes, or even the ability for companies to invoice in their national currencies, all of these have made import prices more stable. In parallel, Western payment infrastructures have taken on an increasingly global role. For example, in the decade following the fall of the Berlin Wall, the number of countries using the SWIFT payment messaging network more than doubled. And in 2020, over 90% of cross-border transmissions were reported through SWIFT.