Markets are exaggerating FOMC dovishness, says Goodhart

Ex-MPC member warns delegates at the FX Week Europe conference

seatbelt close up
Goodhart sees volatility ahead

Financial markets are exaggerating the dovishness of monetary policy-makers in the US and the UK, which could lead to a significant increase in volatility, as and when global liquidity conditions start to tighten, professor Charles Goodhart, ex- Bank of England monetary policy committee member, warned delegates at the 13th annual FX Week Europe conference.

Goodhart said the expansionary monetary policies pursued by major central banks, such as the US Federal Open Market Committee (FOMC), since the global financial crisis has created a misleading impression that the worst effects of excessive debt in the system have been resolved – a theory that will be tested once monetary conditions tighten.

"The financial crisis is far from over. Don't assume [European Central Bank president] Mario Draghi will solve problems with a quantitative easing programme. Extreme liquidity has supressed volatility, but I think we should fasten our seatbelts because once central banks start to withdraw liquidity, we will be in for a rough ride," Goodhart said.

He anticipated increased political risks as a result of the economic situation in places such as the eurozone, where the euro crisis forced Spain and other countries into a deep recession. He also noted the role of expansionary monetary policy in widening inequality in societies around the world.

"What has happened to those countries is a tragedy. Their situation was as bad as the Great Depression in the US in the 1930s, but living standards in other countries have also failed to improve. If you look at a blue-collar worker in the US, their living standards are the same as in the 1980s," he said.

"Expansionary monetary policy inflates asset prices, and the poor, by definition, don't have an asset – that's why they are poor. These situations lead to the emergence of populist policies, both on the left and the right of the political spectrum," he added.

Looking further ahead, Goodhart said China's boom years will come to an end within about two decades as the country moves away from a demographic "sweet spot" – a situation where the size of its labour force is twice the size of its dependent children and elderly – that has allowed it to expand its economy at staggering rates.

"In the longer term there will be significant changes. There is no question that China is moving away from the sweet spot and this will lead to growth coming to an end in about 20 years' time. The question is whether India can take over, or perhaps Africa," he said.

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