General Manager's statement

Statement by Mr Malcolm D Knight, General Manager of the BIS, at the BIS press conference on the occasion of the Bank's Annual General Meeting, Basel, 30 June 2008.

A warm welcome to you all.

While world economic growth has been slowing over recent months, headline inflation has risen significantly, mostly reflecting sharp increases in food and energy prices. Downside pressures on growth are likely to persist in the near term as the real economic effects of the financial crisis in several advanced industrial countries continue to materialise, and the effects of the US economic downturn are felt more strongly around the world. The near-term prospects for headline inflation will depend largely, but not entirely, on how food and energy prices develop. The risk is that headline inflation will rise significantly more in the coming months as food and energy prices remain elevated, some second-round effects on wages materialise and unsustainable subsidies in emerging market countries are reduced.

Looking further ahead, economic growth and inflation dynamics will depend on several factors, including the following:

• first, the length and severity of the current financial crisis and its effect on credit supply;
• second, the magnitude of the downturn in the United States and several other countries currently undergoing a turn in the housing cycle;
• third, the degree to which other parts of the world are able to sustain growth in the face of a US downturn; and
• fourth, the success of monetary authorities in keeping inflationary expectations and second-round effects at bay.

There is currently a significant degree of uncertainty about all of these factors.

Monetary policy has been confronted with two conflicting challenges. On the one hand, financial stress has threatened to spill over into the real economy through tighter credit conditions and a loss of confidence. On the other hand, current inflationary pressures have threatened to feed into longer-term inflation expectations. The relative weights of these challenges vary between countries and regions of the world, calling for temporary differences in the stance of monetary policy. However, if we take into account indicators of global resource utilisation, headline and core inflation trends, and the fact that real policy rates are very low in most parts of the world, it is difficult to escape the conclusion that the global stance of monetary policy might still be too lax. The need to tighten monetary policy is particularly pressing in those emerging markets where growth is still high and real policy rates are unsustainably low. For such a tightening to have the intended effect, and with policy rates low in some key advanced industrial countries, exchange rates must be allowed to appreciate further.

Central banks, other public authorities and financial institutions have taken various measures to mitigate the effects of the recent financial crisis and to attempt to restore the health of the financial system. However, although the current deleveraging process might still have a significant way to go, we should also gradually shift our attention to how to improve our future system for crisis prevention. The fundamental cause of current financial sector problems was excessive credit growth over a long period, exacerbated by excessive risk-taking and failures in risk management at financial institutions. For the future, the Bank for International Settlements in this year's Annual Report proposes a macrofinancial stability framework. In the pursuit of both price stability and financial stability, the report urges central banks and financial supervisors to cooperate more closely to help reduce the procyclicality of the financial system. In particular, this proposed framework would entail the use of both monetary and macroprudential policies to "lean against the wind" of the credit cycle.

Thank you very much.