Interest rates need to go up further

After years of easy money, cheap credit, and reckless monetary policy, central banks are coming to the realisation that an old ghost has returned to haunt us - inflation. The Bank of International Settlements, the organisation that acts as the central bank for central banks warned that central banks must act now and push interest rates higher. The warning was especially directed towards countries with high current-account deficits, in other words, the United States.

The BIS also provided a stark assessment of the US housing market. It said that "The impact of the downturn in the US housing market might not yet have been fully felt." The organisation was right on the money with this one. Housing data from May shows that the crisis is deepening with no end in sight.

The warning from the BIS is welcome, but it is way too late. It would be much better if it had explained the dangers of low interest rates five years ago. All over the world, central banks are now confronted with increasing inflationary pressures, and reluctantly they are beginning to push interest rates up. However, central banks continue to seek the line of least resistance. Rather than aggressively pushing up rates, central banks are doing it slowly, in a forlorn hope that they can avoid recessions.

This reluctance to deal with the problem aggressively threatens to prolong a recession rather than avoid one. It would be better if interest rates were hiked quickly, rather than this low and passive approach that we are witnessing now. People would understand that central banks across the world were serious about tackling inflation, and adjust their behaviour accordingly. Firms would avoid hiking prices, workers would moderate their wage claims, and global imbalances would adjust more quickly and with less pain.