Modesty is the best policy

Monetary policy: Normal is a slippery concept. What counts as a normal house in California would look like a mansion in Caracas. And the normal economy of 2009 might have been regarded as a depressed mess a few years ago.

The world’s central bankers have to decide on their own definition of normal. Because when the economic situation normalises, they can start to wind down monetary policies which are abnormal by any standard: quantitative easing and very low policy interest rates.

As recently as March, the economic and financial situation was clearly aberrant. But the peculiarities have faded away. Credit spreads have moved from unbearable to high, major banks are no longer threatened with imminent demise and the economic news is hot and cold rather than uniformly miserable.

Central bankers are hardly looking at a robust economy. Current financial conditions are tight by the standards of the last five years. The economy may start growing in a quarter or two, but at an anaemic rate. Normally, Ben Bernanke, Jean-Claude Trichet and Mervyn King would respond to this environment by cutting policy rates. But their institutions — the US Federal Reserve, the European Central Bank and the Bank of England — have already done that, and more.

If central bankers’ only goals were fast growth and low unemployment, there would be no question of changing tack anytime soon. Indeed, there are already calls for the even looser monetary policy to keep the recent increase in long-term yields from further dampening the expected feeble recovery.

But the crisis has been a reminder that monetary authorities have wider responsibilities. These include preventing financial disorder. The abnormal policies were instituted in part to do just that. They may have helped keep banks in business, but zero policy rates distort lending markets. And expanding central-bank balance sheets encourages governments to borrow heedlessly. Central bankers are only human and may instinctively prefer faster growth. But that may not be possible to engineer at the same time as a normalisation of the financial system, an increase in the savings rate in the US and UK and a rebalancing of global trade. Bernanke et al should start priming the markets for a policy reversal.